Dani Rodrik's weblog

Thinking straight about fair trade

In the previous entry, I discussed the real-world distributional effects of trade agreements, in the specific case of NAFTA. Why should we care about such redistribution and how should we deal with it?

It is useful to distinguish between two different versions of an argument as to why trade may be problematic from a social or political perspective.

1. Trade is problematic because it redistributes income.
2. Trade is problematic because it violates norms and understandings embodied in our institutional arrangements – it undercuts domestic social bargains.

The first case is no different than a million other things in a market economy that can have distributional implications. It does not in general require that we target trade specifically.

But the second case is different, and may require trade remedies. I associate the valid core of fair-trade or social-dumping concerns with this particular possibility.

I elaborate on this argument here. Here is a teaser:

Economists like to claim that the purpose of free trade is to eliminate barriers that impair the efficient global allocation of resources, while helping some of the world’s poorest people. It’s an argument undermined by a simple thought experiment. Suppose we wiped the slate clean of the Trans-Pacific Partnership, the Transatlantic Trade and Investment Partnership, and other similar trade deals, and the world’s trade negotiators banged their heads to figure out the best way of achieving their stated goals. What would they be negotiating about?

Tariffs? Rules on intellectual property rights? Investment regulations?

Read the rest here.

What did NAFTA really do?

Brad De Long has written a lengthy essay that defends NAFTA (and other trade deals) from the charge that they are responsible for the loss of manufacturing jobs in the U.S. I agree with much that he says – in particular with the points that the decline in manufacturing employment has been a long-term process that predates NAFTA and the China shock and that it is driven mainly by the secular trend of labor-saving technological progress. There is no way you can hold NAFTA responsible for employment de-industrialization in the U.S. or expect that a “better” deal with Mexico will bring those jobs back.

At the same time, the essay leaves me frustrated and uneasy. It seems to gloss over the distributional pain of NAFTA and overstate the overall gains.  

So what does the evidence say on these issues? We have now some good academic papers that address both overall gains and distributional impacts.

Let’s start with the big picture. Remember first that many advocates of NAFTA made at the outset some wildly optimistic claims about what NAFTA was going to achieve. The most extravagant of the studies, and the one that probably was the most widely circulated, was one produced at the Peterson Institute for International Economics (then just the Institute for International Economics). This study argued that NAFTA would be a net job creator for the U.S., thanks to a projected improvement in the U.S. balance of trade. (This study is apparently no longer available on PIIE’s web site, but excerpts can be found here; see p. 58 for projected impacts.)

This argument was always a red herring: trade agreements are not supposed to create net employment; they simply reshuffle employment. NAFTA neither subtracted, nor added substantial number of jobs to the U.S. economy. At best, it made the U.S. economy more efficient by reallocating workers to jobs that are more productive.

And certainly this happened. But the overall efficiency gains are quite small, much smaller than what the trade volume effects would lead you to believe. A recently published academic study by Lorenzo Caliendo and Fernando Parro uses all the bells-and-whistles of modern trade theory to produce the estimate that these overall gains amount to a “welfare” gain of 0.08% for the U.S. That is, eight-hundredth of 1 percent! See their Table 2 (here or here). Trade volume impacts were much larger: a doubling of U.S. imports from Mexico.

What is equally interesting is that fully half of the miniscule 0.08% gain for US is not an efficiency gain, but actually a benefit due to terms-of-trade improvement. That is, Caliendo and Parro estimate that the world prices of what the U.S. imports fell relative to what it exports. These are not efficiency gains, but income transfers from other countries (here principally Mexico and Canada). These gains came at the expense of other countries.

A gain, no matter how small, is still a gain. What about the distributional impacts?

The most detailed empirical analysis of the labor-market effects of NAFTA is contained in a paper by John McLaren and Shushanik Hakobyan. They find that the aggregate effects were rather small (in line with other work), but that impacts on directly affected communities were quite severe. It is worth quoting John McLaren at length, from an interview:

Q. According to your study, what are the key impacts of NAFTA on U.S. wages?

For the average worker, there is not much of an impact, but for certain important pockets of workers, the lowered import barriers resulting from NAFTA do seem to have lowered wage growth well below what it would have been. This is particularly true for blue-collar workers. We did not see much of an effect on college-educated workers, and executives at the other end of the spectrum did gain some benefit from globalizing their production line.

There is also a big geographic component. Even if you do not work in an affected industry, if you work in a town that depends on one of those industries, your wage growth was likely affected. For example, a waitress working in a town that depends heavily on apparel manufacturing might miss out on wage growth even though she does not work in an industry directly affected by trade. To me, this was one of our most striking findings.

Q. Among impacted workers, how did wages change?

The most affected workers were high school dropouts working in industries that depended heavily on tariff protections in place prior to NAFTA. These workers saw wage growth drop by as much as 17 percentage points relative to wage growth in unaffected industries. If you are a blue-collar worker at the end of the ’90s and your wages are 17 percent lower than they could have been, that could be a disaster for your family. That was the largest impact we saw, and it is important to remember that the impact is much smaller for the average worker.

Q. Which industries have borne the brunt of the impact?

Industries that had a big tariff drop because of NAFTA, and that produce something Mexico tends to export, were hardest-hit in terms of wage growth. According to our data, this included many old-line manufacturing industries, such as those manufacturing apparel, textiles, footwear or structural clay products like brick and tile.

Q. Which geographic areas were most vulnerable?

We found the largest impacts in parts of Georgia, North Carolina, South Carolina and Indiana, with areas like Washington, D.C., Northern Virginia and Maryland among the least vulnerable locales.

In the discussion surrounding NAFTA, you often hear about impacts in manufacturing states like Ohio and Pennsylvania. We did not pick up too much impact there, likely because we were only looking at the effects of reductions in U.S. tariffs against Mexican goods. This study did not look at the effects of reducing Mexican tariffs on products from the U.S., which, paradoxically, could cause problems for U.S. workers as manufacturers move production chains south. That is something that we are researching currently and it could explain what we are seeing in areas like Ohio and Pennsylvania.

In other words, those high school dropouts who worked in industries protected by tariffs prior to NAFTA experienced reductions in wage growth by as much as 17 percentage points relative to wage growth in unaffected industries. I don’t think anyone can argue that a 17 percentage drop is small. As McLaren and Hakobyan emphasize, these losses were then propagated throughout the localities in which these workers lived.

So here is the overall picture that these academic studies paint for the U.S.: NAFTA produced large changes in trade volumes, tiny efficiency gains overall, and some very significant impacts on adversely affected communities.

The consequences of NAFTA for Mexico are another topic which would require a separate post. Let me just say that the great expectations the country’s policy makers had for NAFTA have not been fulfilled. Despite the country’s integration into North American production chains, overall productivity has stagnated. Mexico has been one of Latin America’s underperformers.

So is Trump deluded on NAFTA’s overall impact on manufacturing jobs? Absolutely, yes.

Was he able to capitalize on the very real losses that this and other trade agreements produced in certain parts of the country in a way that Democrats were unable to? Again, yes.  

New results on structural change during the recent growth boom in developing countries

The last two decades have been a rare period of rapid convergence for the world's developing economies. Everyone is familiar with China and India's experience, but growth went beyond these two large economies. Many countries in Sub-Saharan Africa and Latin America had their best performance in decades, if not ever.

In a new paper, my co-authors Xinshen Diao (IFPRI) and Margaret McMillan (Tufts and IFPRI) and I examine this experience. We ask what drove this growth and how sustainable is it. Looking at recent growth through the lens of structural change proves particularly insightful.

Here is our decomposition of recent growth accelerations into the within-sector and between-sector terms. The latter term captures the growth contribution of structural change -- the reallocation of labor across sectors with different labor productivities.

What stands out in the analysis is that recent growth accelerations were based on either rapid within-sector labor productivity growth (Latin America) or growth-increasing structural change (Africa), but rarely both at the same time. In Latin America, within-sector labor productivity growth has been impressive, but growth-promoting structural change has been very weak. In fact, structural change has made a negative contribution to overall growth excluding agriculture, meaning labor has moved from high-productivity sectors to low-productivity activities. In Africa, the situation is the mirror image of the Latin American case. Growth-promoting structural change has been significant, especially in Ethiopia, Malawi, Senegal, and Tanzania. But this has been accompanied in these countries by negative labor productivity growth within non-agricultural sectors.

This is not how growth is supposed to happen. As we show in the paper, the East Asian pattern of growth was very different, with both terms contributing strongly to overall growth in high-growth periods. We develop a simple two-sector general equilibrium model in the paper to shed light on these patterns, especially the contrast between the African and Asian models.

We show that the Asian pattern of strong “within” and “between” components is consistent with growth being driven mainly by positive productivity shocks to the modern sectors. The African model, by contrast, is consistent with growth being driven not by the modern sector, but by positive aggregate demand shocks (due to foreign transfers, for example) or by productivity growth in the traditional sector (agriculture). In this version of the model, the modern sector expands and growth-promoting structural change takes place as increased demand spills over to the modern sector. (Our assumptions on preferences ensure that demand shifts are sufficiently biased towards the modern sector to ensure the modern sector expands in both cases, despite relative-price adjustments.) But labor productivity in the modern sector is driven down as a by-product, as diminishing returns to capital set in and less productive firms are drawn in. This is also consistent with the relatively poor performance of manufacturing in Africa.

For more, see the paper.

Is Global Equality the Enemy of National Equality?

The question in the title is perhaps the most important question we confront, and will continue to confront in the years ahead. I discuss my take in this paper.

Many economists tend to be global-egalitarians and believe borders have little significance in evaluations of justice and equity. From this perspective, policies must focus on enhancing income opportunities for the global poor. Political systems, however, are organized around nation states, and create a bias towards domestic-egalitarianism. 

How significant is the tension between these two perspectives? Consider the China "trade shock." Expanding trade with China has aggravated inequality in the United States, while ameliorating global inequality. This is the consequence of the fact that the bulk of global inequality is accounted for by income differences across countries rather than within countries. 

But the China shock is receding and other low-income countries are unlikely to replicate China’s export-oriented industrialization experience. So perhaps the tension is going away?

Not so fast. The tension is even greater somewhere else: Relaxing restrictions on cross-border labor mobility would have an even stronger positive effect on global inequality, at the cost of adverse effects at the lower end of labor markets in rich economies. On the other hand, international labor mobility has some advantages compared to further liberalizing international trade in goods.

I discuss these issues and more here.

Scholars' letter of support for Ricardo Hausmann

Here is a letter that I have prepared and signed with some colleagues in response to Venezuelan president Nicolás Maduro’s ugly attacks on Ricardo Hausmann.

“We the undersigned write to express our dismay at Venezuelan president Nicolás Maduro’s repeated targeting of our colleague Ricardo Hausmann and to express our support for Professor Hausmann.

Two years ago, President Maduro ordered Venezuela’s Attorney General to proceed against Professor Hausmann following an article in which Hausmann argued that the government consider defaulting on its external debt to spare the Venezuelan people further economic hardship. Last year, he aired the tape of a private conversation between Professor Hausmann and a Venezuelan businessman and ordered that Hausmann be prosecuted. And most recently, on November 3^rd, he called Professor Hausmann a “traitor” in a televised address and accused him of conspiring with ratings agencies and the International Monetary Fund in order to deny Venezuela access to capital markets.

Professor Hausmann is a distinguished scholar and practitioner who has worked with governments around the world. He is a leading voice on economic policy and a frequent contributor to the world’s financial media. In his writings and policy advocacy on Venezuela, Professor Hausmann has exercised his right of free speech, essential to any open society. President Maduro’s response to these activities speaks volumes about his regime’s respect for free speech and the rule of law.

We find President’s Maduro’s attacks on Professor Hausmann appalling and shameful. We stand in solidarity with Professor Ricardo Hausmann against these attacks.”

Besides me, the letter is signed, among others, by Daron Acemoglu (MIT), Pol Antras (Harvard), Guillermo Calvo (Columbia), Domingo Cavallo (Argentina), Guillermo de la Dehesa (CEPR), Barry Eichengreen (Berkeley), Eduardo Engel (Universidad de Chile),  Alejandro Foxley (CIEPLAN), Jeffrey Frankel (Harvard), Michael Kremer (Harvard), Robert Lawrence (Harvard), Scott Mainwaring (Harvard), Rodolfo Manuelli (Washington University in St. Louis), Andreu Mas-Colell ( Universitat Pompeu Fabra, Barcelona), Andres Neumayer (Universidad Torcuato Di Tella), Joseph Nye (Harvard), Jose Antonio Ocampo (Columbia), Rohini Pande (Harvard), Guillermo Perry (Universidad de los Andes), Lant Pritchett (Harvard), Carmen Reinhart (Harvard), Roberto Rigobon (MIT), Andres Rodriguez-Clare (Berkeley), Kenneth Rogoff (Harvard), Chuck Sabel (Columbia), Kathryn Sikkink (Harvard), Joseph Stiglitz (Columbia), Federico Sturzenegger (Central Bank of Argentina), Ernesto Talvi (CERES), Roberto Mangabeira Unger (Harvard),  Andres Velasco (Columbia), Stephen Walt (Harvard), Richard Zeckhauser (Harvard).

For the full list of signatories, please see here (updated list as of November 18, 2016).

The Walloon mouse

It appears Belgium's Wallonia has put a nail on the coffin of the EU-Canada trade agreement (CETA) by vetoing it. The reasons, The Economist puts it, "are hard to understand." 

Well, yes and no. Canada is one of the most progressive trade partners you could hope to have, and it is hard to believe that Walloon incomes or values are really being threatened. But clearly something larger than the specifics of this agreement is at stake here.

Instead of decrying people's stupidity and ignorance in rejecting trade deals, we should try to understand why such deals lost legitimacy in the first place. I'd put a large part of the blame on mainstream elites and trade technocrats who pooh-poohed ordinary people's concerns with earlier trade agreements. 

The elites minimized distributional concerns, though they turned out to be significant for the most directly affected communities. They oversold aggregate gains from trade deals, though they have been smallish since at least NAFTA. They said sovereignty would not be diminished though it clearly was in some instances. They claimed democratic principles would not be undermined, though they are in places. They said there'd be no social dumping though there clearly is at times. They advertised trade deals (and continue to do so) as "free trade" agreements, even though Adam Smith and David Ricardo would turn over in their graves if they read, say, any of the TPP chapters.

And because they failed to provide those distinctions and caveats now trade gets tarred with all kinds of ills even when it's not deserved. If the demagogues and nativists making nonsensical claims about trade are getting a hearing, it is trade's cheerleaders that deserve some of the blame.

One more thing. The opposition to trade deals is no longer solely about income losses. The standard remedy of compensation won't be enough -- even if carried out. It's about fairness, loss of control, and elites' loss of credibility. It hurts the cause of trade to pretend otherwise.

How to tell apart trade agreements that undermine democratic principles from those that don't

I discussed in an earlier post on Brexit how to think about international agreements and the constraints on state action they entail in terms of democratic legitimacy. Since that discussion has relevance beyond Brexit, I've pasted the relevant part here below. The basic point is this: the fact that an international rule is negotiated and accepted by a democratically elected government does not inherently make that rule democratically legitimate.

The optimistic argument has been best formulated by the political scientists Bob Keohane, Steve Macedo and Andy Moravcsik. They point there are various ways in which global rules can enhance democracy -- a process that they call “democracy enhancing multilateralism.” Democracies have various mechanisms for restricting the autonomy or the policy space of decision makers. For example, democratically elected parliaments often delegate power to independent or quasi-independent autonomous bodies. Central banks are often independent and there are various other kinds of checks and balances in constitutional democracies. Similarly, global rules can make it easier for national democracies to attain the goals that they pursue even if they entail some restrictions in terms of autonomy. Keohane at al. discuss three specific mechanisms: global rules can enhance democracy by offsetting factions, protecting minority rights, or by enhancing the quality of democratic deliberation.

However, just because globalization can enhance democracy does not mean that it always does so. In fact there are many ways in which global governance works in quite the opposite way from that described by Keohane et al. Anti-dumping rules, for example, augment protectionist interests. Rules on intellectual property rights and copyrights have privileged pharmaceuticals companies and Disney against the general interest. Similarly, there are many ways in which globalization actually harms rather than enhances the quality of democratic deliberation. For example, preferential or multilateral trade agreements are often simply voted up or down in national parliaments with little discussion, simply because they are international agreements. Globalization-enhancing global rules and democracy-enhancing global rules may have some overlap; but they are not one and the same thing.

More broadly, international commitments can be used to tie the hands of governments in both democratically legitimate and illegitimate ways. External discipline can be sought in two different kinds of settings--one of which is much more defensible on the traditional democratic delegation grounds than the other.

Consider first the case where the government faces a "time-inconsistency" problem. It would like to commit to free trade or to fiscal balance, but realizes that over time it will give in to pressure and deviate from what is its optimal policy ex ante. So it chooses to tie its hands through external discipline. This way, when protectionists and big spenders show up at its door, the government says: "sorry, the WTO or the IMF will not let me do it." Everyone is better off, save for the lobbyists and special interests. This is the good kind of delegation and external discipline.

Now consider the second kind. Here, the government fears not its future self, but its future opponents: the opposition party (or parties). The latter may have different views on economic policy, and if victorious in the next election, may well choose to shift course. Now when the incumbent government enters an international agreement, it does so to tie the hands of its opponents. From an ex-ante welfare standpoint, this strategy has much less to recommend itself. The future government may have better or worse ideas about government policy, and it is not clear that restricting its policy space is a win-win outcome. This kind of external discipline has much less democratic legitimacy because, once again, it privileges one set of interests against others.

It’s a war of ideas, not of interests

Mike Konczal has an interesting piece on how the progressives are unlikely to win over Trump’s base of white, male, working class voters – even if they take their concerns to heart and propose policies that will help them.  He thinks progressives lack specificity and clarity on the “specific approaches and programs [that] would convince Trump’s voters to join liberals.” More fatally, he believes the progressive agenda, if successfully implemented, would actually fail to bring these voters along.

Here is the gist of the argument:

“Yet any sufficiently important left project going forward is going to involve at least four things: a more redistributive state, a more aggressive state intervention in the economy, a weakening of the centrality of waged labor, and a broadening, service-based form of worker activism. These four points, essential as they are, will likely further drive Trump’s white working-class supporters away from the left, rather than unite them.”   

Konczal might well be right, but I want to entertain the possibility that he is wrong.

The progressives’ preference for specific policies is rooted in the view that voters’ “interests” – as they derive from their occupation, income, race, or gender – are fairly fixed. So policies are winners as long as they appeal to those “interests.”

But there is a complementary perspective in politics that says political competition is as much about shaping those interests. The politics of ideas is about activating identities that may otherwise remain silent, altering perceptions about how the world works, and enlarging the space of what is politically feasible.

If left-liberals take for granted that the white middle class is essentially racist, hate the federal government, oppose progressive taxation, don’t think big banks and dark money are a problem … and so on, then indeed many of the remedies that progressives have to offer will fail to resonate and there is little that can be done. But why should we assume that these are the givens of political life?

A large literature in social psychology and political economy suggests that identities are malleable as are voters’ perceptions of how the world works and therefore which policies serve their interests. A large part of the right’s success derives from their having convinced lower and middle class voters that the government is corrupt and inept. Can’t progressives alter that perception?

Note that what is required here is not one more well-designed program. It is a narrative, a marketing device – a bumper sticker.

Consider one of Konczal’s examples. He mentions Arlie Hochschild’s book Strangers in Their Own Land, which describes people living in the polluted “Cancer Alley” of Louisiana.

“They are people who are conscious of the environmental wreckage industry has brought to their area, yet they vote for people opposed to the Environmental Protection Agency and environmentalism generally.

Hochschild finds that her subjects don’t experience this as a tension because they view the federal government as something that is helping people ‘cut in line.’”

In other words, people dislike and distrust the government. And yes of course, conditional on that belief, the progressives’ agenda of enhanced environmental regulation will not draw the support of the people it tries to help. Same with dealing with the banks, creating more jobs, or progressive taxation.

Clearly, the progressives have lost the war of ideas here – on government as a force for good. Equally clearly, they will not win it by offering detailed policy proposals on each one of these areas.

Progressives need to shape the narrative that structures voters’ interests. They need to be able to appeal to identities beyond race and gender – occupation, social class, income status, and patriotism. They need to convince the electorate that it is their interests they have at heart – not those of bankers or of large corporations.  They need to forge a story line that will shape a package of policy proposals into a politically appealing whole.

Progressives need not give up on the white, male working class. But they need to understand that politics is as much about redefining perceptions of interests as it is about responding to those interests.

How Shimon Peres brought inflation down in 1985

I saw Shimon Peres, who passed away yesterday, only once and it was at a conference on inflation stabilization in Jerusalem in 1990. He had led the national unity government during 1984-86 which had successfully brought down the country's triple-digit inflation. The conference organizer, the great Michael Bruno, had asked him to give an after-dinner speech.

When Peres took office, the budget deficit stood at more than 15% of GDP. Everyone at the conference wanted to know how he had managed to bring it down so quickly.

Peres said it was actually quite easy. He called a cabinet meeting -- Labour and Likud had an equal number of cabinet seats -- and announced that the meeting would not end until the requisite expenditure cuts had been agreed upon.

The meeting went on and on, with each minister zealously guarding his turf. But as Peres explained, eventually people got tired. Some ministers began to nod off. That was Peres' chance. "The minister of education seems to have fallen asleep. Off with his budget. Look, the minister of tourism has also nodded off -- off with his budget too..."

The story probably underestimates Peres' abilities as a negotiator, and the effort he had to spend to get his cabinet to agree to the cuts. But it is a funny one.

From hyper-globalization back to sensible globalization

I had a piece in the New York Times over the weekend that tries to steer our globalization discussion in what I think is a more sensible direction. A brief excerpt:

We need to rescue globalization not just from populists, but also from its cheerleaders. Globalization evangelists have done great damage to their cause not just by underplaying the real fears and concerns on which the Trumps of this world thrive, but by overlooking the benefits of a more moderate form of globalization.

We must reassess the balance between national autonomy and economic globalization. Simply put, we have pushed economic globalization too far — toward an impractical version that we might call “hyperglobalization.”

The principles I discuss are taken largely from my book, The Globalization Paradox --  so if you've read that book, you will not see much that is new. But the intervening developments have made these ideas even more relevant now, I think.