FREE TRADE...IS IT BAD FOR THE U.S. ECONOMY?

Of course not! Contrary to public opinion, free trade is a boon to the economy and a real benefit to consumers. It gives consumers more options in the goods and services they can purchase; it expands the markets within which businesses operate; and generally, it lowers prices to consumers too. In fact, free trade is the only issue on which virtually all economists agree.

But still you find some economists who oppose free trade. They very likely represent the vested interests of a narrow group of businesses, or perhaps a labor union trying to protect its workers from lower priced and more efficient foreign competition. Usually, what gets lost in all the discussion, are the benefits to all consumers. At this moment, in fact, the Senate is discussing passing a bill to grant President Obama "fast track authority" to make trade deals and those Senators objecting to the bill are liberals who are supporting narrow business interests.

Among consumers there is a lot of misguided and confused talk about foreign trade. On the one hand, many complain about all the foreign goods that are invading our shores and stores, and of the jobs we are losing to foreign competition. Today the complaints are mostly about China, but we should recall that a few years back the complaints were about Japan. On the other hand,  many of those consumers go cheerfully to those same stores to buy imported goods that are significantly lower-priced, and perhaps higher quality, than the alternatives made at home.

That which is seen, and that which is not seen

Frederic Bastiat - 1801-1850

About 165 years ago, the French economist Frederick Bastiat cleverly explained the reasons why many people oppose free trade. Bastiat put it in terms of what is seen and not seen. Upon opening borders to foreign competition some specific businesses may be forced to close and lay off workers, because they can't match that competition either in prices,  quality or both. This is what is seen- people observe that and immediately conclude that free trade is bad. We can all point out to examples, recent or not, where businesses have closed and workers became unemployed because of foreign competition. But those foreign products, at lower prices and/or better quality, can now be enjoyed by everybody. All consumers benefit from this, and this is what is not seen.

The important lesson from Bastiat, one that even some economists ignore today, is that when analyzing the economic impact of some action, we must look not only at the immediate, visible effects. We must look deeper at any subsequent, delayed effects that are not immediately apparent. In most cases, those delayed effects contradict and overwhelm the "seen" impact of the immediate effects.

What do the data reveal?
But first, let's take a look at some figures. As the rest of the world inevitably has become more industrialized and economically advanced, the U.S. global dominance in all economic matters has waned, naturally- this is seen as a reason for objecting to free trade. But in reality it is not a case of us losing ground; rather other countries are becoming more advanced and are gaining. But in the end we are all better off, much better off.
We only need to look at our imports and exports. The chart "U.S. Trade as a Percent of GDP" shows that while exports and imports were about 5% of GDP in 1969, today they are 13% and 17% of GDP, respectively. And the foreign trade share of GDP has grown in tandem with U.S. GDP growth. How can trade be a bad thing then?

This level of trade represent about three trillion dollars of foreign goods that we now have access to here in the U.S. For instance, while in the 50s or 60s we had only four choices of automobile companies (Ford, GM, Chrysler and American Motors- who remembers?), many of them offering cars of perhaps low quality, today we can choose from dozens of manufacturers coming from a multitude of countries. We have a multitude of choices in terms of types, quality, prices, etc.

What about the trade deficit?
But, you will say, we are running huge trade deficits, we are losing while countries like China are winning at our expense. This is not true- we are not losing and they are not winning. We are both voluntarily exchanging one thing for another. When we import goods or services from another country, say China, we give either dollars or IOUs in exchange. We get the cars, bicycles, or whatever we imported and they get pieces of paper. Are they richer and we poorer now? No, of course not. We have things now that we wanted more than those dollars, and they have the dollars or IOUs. But they can't eat those paper documents, they have to spend them either today or sometime in the future.
So, as long as they are willing to hold those IOUs (typically U.S. government debt, shares in U.S. companies, etc.) nothing happens. They are earning a modest rate of return on the IOUs and we only pay that interest due. This is what is called the "capital account" surplus.
If at some point in the future they decide to get rid of those IOUs, we will see an impact on the dollar exchange rate.