No Such Thing as a Free Lunch: Principles of Economics (Part 174)

Maintaining confidence in international trade will be critical to the broader economic recovery in the post-Covid world.

Liz Truss

International Trade, Comparative Advantage, and Protectionism

(Part A)

by

Charles Lamson

Over the last 50 plus years, international transactions have become increasingly important to the U.S. economy. In 1970, imports represented only about 7 percent of U.S. gross domestic product (GDP). In 2019, the percentage of U.S. imports of the GDP amounted to 14.6 percent (statista.com).

The "internationalisation" or "globalization" of the U.S. economy has occurred in the private and public sectors, in input and output markets, and in business firms and households. Once uncommon, foreign products are now everywhere, from the utensils we eat with to the cars we drive. In 1970, foreign-produced cars made up only a small percentage of all the cars in the United States. At that time, it was difficult to find mechanics who knew how to repair foreign cars, and replacement parts were hard to obtain. Today the roads are full of Toyotas and Nissans from Japan, Volvos from Sweden, and BMWs from Germany, and any service station that cannot repair foreign-produced automobiles probably will not get much business.

At the same time, the United States exports billions of dollars worth of agricultural goods, aircraft, and industrial machinery. Financial capital flows smoothly and swiftly across international boundaries in search of high returns.

The inextricable connection of the U.S. economy to the economies of the rest of the world has had a profound impact on the discipline of economics and is the basis of one of its most important insights:

All economies, regardless of their size, depend to some extent on other economies and are affected by events outside their borders.

To get you more acquainted with the international economy, the next several posts discuss the economics of international trade. First, we describe the recent tendency of the United States to import more than it exports. Next, we explore the basic logic of trade. Why should the United States or any other country engage in international trade? Finally, we address the controversial issue of protectionism. Should a country provide certain industries with protection in the form of import quotas, tariffs, or subsidies?

Trade Surpluses and Deficits

Until the 1970s, the United States generally exported more than it imported. When a country exports more than it imports, it runs a trade surplus. When a country imports more than it exports, it runs a trade deficit.

The large trade deficits in the middle and late 1980s touched off political controversy that continues today. Foreign competition hit U.S. markets hard. Less expensive foreign goods---among them steel, textiles, and automobiles---began driving U.S manufacturers out of business, and thousands of jobs were lost in important industries. Cities such as Pittsburgh, Youngstown, and Detroit had major unemployment problems.

The natural reaction was to call for protection of U.S. industries. Many people wanted the president and Congress to impose taxes and import restrictions that would make foreign goods less available and more expensive, protecting U.S. jobs. This argument was not new. For hundreds of years, industries have petitioned governments for protection and societies have debated the pros and cons of free and open trade. For the last century and a half or so, the principal argument against protection has been the theory of comparative advantage (According to this theory, specialization and free trade will benefit all trading parties.), first discussed in part part 5 and where we turn our attention in the next post.

*CASE & FAIR, 2004, PRINCIPLES OF ECONOMICS, 7TH ED., PP. 665-667*

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