In an FT opinion piece, Jagdish Bhagwati, a famous name in economic circles on the issue of free trade, issued a blistering attack on president-elect Barack Obama’s commitment to free trade in the face of a deteriorating U.S. job market. Bhagwati was optimistic about Obama as a free-trader during his primary battle with Hillary Clinton. However, Bhagwati is now deeply skeptical of Obama and his free trade bona fides.
Are we headed for another bout of Smoot-Hawley? If you agree with Professor Bhagwati, you might answer yes. Here is a snippet of his remarks below. I have highlighted the pieces I most agree with.
In the Financial Times, I argued that, unlike with Hillary Clinton, there were several reasons why one could be optimistic that Barack Obama would follow a pro-trade policy despite “prudential” protectionist talk on the primaries circuit (“Obama’s free-trade credentials top Clinton’s”, March 3 2008). But the US president-elect’s eloquent silence on trade issues – and his failure to balance his protectionist appointments with powerful trade proponents – require that we abandon these illusions and sound an alarm.
Consider Mr Obama’s support for the multilateral trading system. It must be admitted that the Doha round is on hold and Mr Obama could not move it forward even if he so desired. A principal problem is that its completion turns critically on the US making further reductions in its distorting agricultural subsidies. But the issue has become even more difficult with the collapse of commodity prices and hence increases in support payments. Besides, history shows that the freeing of trade is nearly impossible to achieve in times of macroeconomic crisis.
But Mr Obama (unlike Gordon Brown) missed the opportunity, provided by the Group of 20’s affirmation of trade’s importance, to affirm that he attaches the highest priority to closing the Doha round and will work on this urgent task throughout his first year.
More important, Mr Obama has missed the bus on preventing a slide back into protectionism. His pronouncements on the car bail-out disregard the lessons of the early 1930s when the Smoot-Hawley tariff was signed into law and a competitive raising of tariff barriers ensued. We learnt then that tariffs and trade restrictions could indeed increase our national income by diverting a given amount of insufficient world demand to our markets. But then others could do the same to divert our demand to their goods, so that the result was reduced trade and deepened depression. Far better to keep markets open and increase aggregate world demand. So, the architects of the General Agreement on Tariffs and Trade (merged in 1995 into the World Trade Organisation) built into it institutionalised obstacles to an outbreak of mutually harmful trade policies.
But what trade barriers did after 1930 can be done also by subsidies. So we now have strict rules on subsidies as well. Under a 1995 WTO agreement, export subsidies and “local content” requirements are prohibited as directly damaging to trade and all other subsidies that are specific to companies or industries are open to complaint; and this applies even when they are claimed to be environmentally friendly.
There is no doubt that a bail-out just of cars, and within that specifically of Detroit, would qualify for countervailing action and dispute settlement challenges. It is important therefore that Mr Obama declare unambiguously that any bail-out will be WTO-consistent, because every other country will otherwise be emboldened to follow suit. Mr Obama, who has properly denounced unilateralism, should also not be the president who undermines respect for the rule of law that the WTO embodies at the multilateral level.
That is a very harsh assessment because Obama hasn’t even gotten into office. Read Professor Bhagwati’s further comments at the link below. I would agree with him that the bailouts of the auto industry are a bad precedent. These maneuvers have already been noted and copied in the United Kingdom, Sweden and Germany. Given the recent plummeting of car sales in Japan, I would expect Japan to be next here. It would have been better for them to agree to a pre-packaged bankruptcy in consultation with the government in order to save jobs. Failure IS a part of the free market.
However, this outcome should not be unexpected. I predicted as much a full 10 months ago in my post, “The US Economy 2008.” Again I will bold the relevant parts.
The global economy, now supported in the main only by the overextended U.S. consumer, finds itself at stall speed, susceptible to any number of potential exogenous shocks. Ultimately, the economic malaise created by this confluence of events will take years to unwind. A positive outcome to this process is dependent wholly on liquidation of excess credit and consumption.
This process will be extremely painful in the short term, but will lead to a healthy economy long-term. Unfortunately, experience shows that these painful steps will only be taken as a last resort. Moreover, geopolitical events become volatile in a world of economic insecurity, leading to political upheaval and protectionism. Protectionism is a natural outgrowth of nationalist economic policy as it transfers wealth from foreign producers to domestic producers by cutting off access to lower cost excess capacity in the goods in service sectors. However, this also serves to transfer wealth from domestic consumers to domestic producers by increasing the price of goods in the protected sectors, ultimately reducing consumption demand.
So, here we are right where one would expect us to be. Protectionism is bad for consumers. But, when economic turmoil occurs, myopic leaders make it a case of every nation for itself and turn to protectionism and subsidies that end up hurting everyone but the companies receiving protection.
Let us hope a future President Obama turns out to be much better than Professor Bhagwati wants us to believe he will be.
Source Obama and trade: an alarm sounds – FT
- Volkswagen: if the American carmakers can get bailout funds, so can we
- Sweden: competitive auto bailouts begin with Saab and Volvo
- The Swedish banking crisis response – a model for the future?
Originally published at Credit Writedowns and reproduced here with the author’s permission.