Saturday, May 24, 2008

Could Someone Explain Stolper-Samuelson to James Surowiecki?

And why does Greg Mankiw endorse this stuff?

The candidates are trying to win the favor of unions and blue-collar voters in states like Ohio and West Virginia, of course, but their positions also reflect a widespread belief that free trade with developing countries, and with China in particular, is a kind of scam perpetrated by the wealthy, who reap the benefits while ordinary Americans bear the cost. It’s an understandable view: how, after all, can it be a good thing for American workers to have to compete with people who get paid seventy cents an hour? As it happens, the negative effect of trade on American wages isn’t that easy to document. The economist Paul Krugman, for instance, believes that the effect is significant, though in a recent academic paper he concluded that it was impossible to quantify. But it’s safe to say that the main burden of trade-related job losses and wage declines has fallen on middle- and lower-income Americans. So standing up to China seems like a logical way to help ordinary Americans do better. But there’s a problem with this approach: the very people who suffer most from free trade are often, paradoxically, among its biggest beneficiaries. The reason for this is simple: free trade with poorer countries has a huge positive impact on the buying power of middle- and lower-income consumers—a much bigger impact than it does on the buying power of wealthier consumers. The less you make, the bigger the percentage of your spending that goes to manufactured goods—clothes, shoes, and the like—whose prices are often directly affected by free trade.

Yes, it seems we have another edition of free trade benefits everyone through lower prices. Dani Rodrik addressed this argument directly over a one year ago:

Advocates of globalization love to argue that free trade lowers prices, and the argument seems sensible enough. Think of all the cheap goods from China that we can buy at Wal-Mart. But anyone who understands comparative advantage knows that free trade affects relative prices, not the price level (the latter being the province of macro and monetary factors). When a country opens up to trade (or liberalizes its trade), it is the relative price of imports that comes down; by necessity, the relative prices of its exports must go up! Consumers are better off to the extent that their consumption basket is weighted towards importables, but we cannot always rely on this to be the case.

And since Surowiecki mentioned Paul Krugman, let’s see what he had to say:

What all this comes down to is that it’s no longer safe to assert, as we could a dozen years ago, that the effects of trade on income distribution in wealthy countries are fairly minor. There’s now a good case that they are quite big, and getting bigger.

Hard to quantify is not the same thing as nearly zero. Of course, the Stolper-Samuelson theorem states:

An increase in the price of a good will cause an increase in the price of the factor used intensively in that industry and a decrease in the price of the other factor.

In fact, as the price of apparel declines from free trade with China, the wages of apparel workers fall by more than the prices of apparel so the real wages of apparel works decline. Somehow it seems that James Surowiecki never grasped this proposition.


Anonymous said...

"Consumers are better off to the extent that their consumption basket is weighted towards importables, but we cannot always rely on this to be the case."

No, we cannot always rely on this to be the case. But in this case, we can rely on it to be the case, because the whole point of the Broda-Romalis paper is they actually looked in detail at the consumption budgets of low-income workers and found that they were, in fact, heavily weighted toward importables, and significantly more weighted toward importables from China than the budgets of high-income consumers. The argument I made in my piece is not a theoretical argument about the benefits of free trade for consumers as a whole -- it's an empirical argument about the benefits of free trade for low-income consumers.

As for quoting Stolper-Samuelson, there are fewer than 900,000 apparel workers left in the U.S. There are 30 million+ low-income American consumers, the vast majority of whom don't now and in fact never did work in industries that compete with China, who reap sizeable benefits -- as Broda and Romalis document -- from the lower prices that free trade with China has empirically brought. If you want to make the case that the costs to those apparel workers today (and to those who used to work in the apparel industry)outweigh the benefits to the consumers, then do it empirically, documenting the costs and benefits. Merely citing S+S doesn't help you.

In any case, the point of the piece is not that free trade is a magic bullet. It's simply that the biggest beneficiaries as consumers of free trade with China are low-income Americans, because their consumption budgets are more heavily weighted toward the goods that we import from China, and they have been the biggest beneficiaries of the deflation that trade with China has brought. Again, this is not theoretical -- it's empirical. You can dispute Broda and Romalis' numbers, or the other studies I cite -- but simply invoking Dani Rodrik without looking at what Americans actually spend their money on is a nonsensical move.

Joe said...

"real" income is "real" income, period. real income accounts for the totality of products consumer purchase. trying to parse the situation by suggesting that change in trade regimes has ambiguous effect on the real income of american workers is nonsensical. The question is trade's effects on "real" income, period.

Anonymous said...

If low income consumers purchase more Chines goods, than their children are more exposed to posion in their toys, their dogs to posion in their dog food, and their families to posion in fish dinners.

Shouldn't this count against any increase in low income consumers living standards brought about by their ability to buy Chinese goods?

Unlike Austin Powers, I doubt that they like to live dangerously.

Denis Drew said...

Wealthy Americans reap the benefits of globalization for the same reason wealthy Americans reap an outsize proportion of the benefits of the economy as a whole: American labor's complete complacency about its need to bargain powerfully in the free marketplace.

I don't know if there is any equation or model in the text books to fit -- for a close parallel -- uninformed customers being taken to the cleaners in a Rent-A-Center store. Rent-A-Center suckers are a tiny bit of our economy -- taken-to-the-cleaners (as in completely deunionized) labor is the going standard.

Again, I don't believe there is a text book model that spells out the cause and effect of what is truly America's "great wage depression". Imagine if we predicted to Americans of 1968 that by 2008 25% of our workforce would be earning less than LBJs $10/hr minimum wage.

If American workers were getting their share across the board, then globalization of manufactured goods might merely be the equivalent of automation to them.

Myrtle Blackwood said...

"And why does Greg Mankiw endorse this stuff?

Well, I'm glad you asked! Because Yoram Bauman, an economist who teaches at the University of Washington has answered that question quite convincingly. He says that Mankiw doesn't know what he's talking about. quoting Bauman on Mankiw's statement about 'free' trade from his 'Ten Principles of Economics':

[Mankiw:] "Free trade. - Trade can make everyone better off."

Translation, trade can make everyone worse off.

I have a proof [of this translation] that will blow your mind of this fact. Here we go: Compare the following two claims:

(i)Trade can make everyone better off.
i) Trade will make everyone better off.

If you have to choose between these two it's no contest. Claim number two is better. But Mankiw uses claim number one. And there's only one explanation: Claim number two has to be wrong. In other words 'trade can make some people worse off' and it's only a hop step and a jump from there to 'trade can make everyone worse off'.

See: Yoram Bauman: On N Gregory Mankiw's '10 Principles of economics'

A 'constructed proof' of this is the example of the Opium Wars of 1839-1842 [20,000,000 or so Chinese dead]:

"During the eighteenth century, the market in Europe and America for tea, a new drink in the West, expanded greatly. Additionally, there was a continuing demand for Chinese silk and porcelain. But China, still in its preindustrial stage, wanted little that the West had to offer, causing the Westerners, mostly British, to incur an unfavorable balance of trade. To remedy the situation, the foreigners developed a third-party trade, exchanging their merchandise in India and Southeast Asia for raw materials and semiprocessed goods, which found a ready market in Guangzhou. By the early nineteenth century, raw cotton and opium () from India had become the staple British imports into China, in spite of the fact that opium was prohibited entry by imperial decree. The opium traffic was made possible through the connivance of profit-seeking merchants and a corrupt bureaucracy. In 1839 the Qing government, after a decade of unsuccessful anti-opium campaigns, adopted drastic prohibitory laws against the opium trade. The emperor dispatched a commissioner, Lin Zexu ( 1785-1850), to Guangzhou to suppress illicit opium traffic. Lin seized illegal stocks of opium owned by Chinese dealers and then detained the entire foreign community and confiscated and destroyed some 20,000 chests of illicit British opium. The British retaliated with a punitive expedition, thus initiating the first Anglo-Chinese war, better known as the Opium War (1839-42). . .

The Opium War, 1839-42
2007-07-02 15:36 From: Author:
The Opium War, 1839-42

Myrtle Blackwood said...

...well everyone was worse off because the Chinese either weren't happy or they were dead. And the British have a particularly bad reputation that has stuck with them now for well over a hundred years.

Anonymous said...

It is not just the price of exports that go up. Domestically produced items that cannot be readily exported also go up in price faster to compensate for falling import prices (medical care, housing, etc...)

Those first in line to receive newly created money are the main gainers from trade induced efficiency. That is, interest rates tend to be lower. Borrowers consume more, and everyone one else has to work overtime to make up for the additional resources borrowers consumed. Those too old/disabled to work overtime eat cat food.

Anonymous said...

" trade affects relative prices, not the price level (the latter being the province of macro and monetary factors)."

If sufficient new money is created to accommodate the extra consumer goods extant because of trade induced efficiency, the recipients of the newly created money will wind up with all of the extra consumer goods. The method used to distribute newly created money is therefore crucial to evenly spread around the gains from trade. If all of the newly created money is distributed to 10% of the population, 10% of the population winds up with all of the gains from trade.

This phenomenon is rarely addressed.

Anonymous said...

James S.: "the biggest beneficiaries as consumers of free trade ... this is not theoretical -- it's empirical."

The whole point is that the empirical question has been poorly framed. (Why is stuff of this quality considered publishable? Any econometricians have answers?)

From an economist's point of view as "the biggest beneficiaries as consumers" is utter nonsense. Only a fool would try to separate consumption from wage-earning -- as Stolper-Samuelson pointed out.

Anonymous said...

That should read:

Only a fool would try to separate consumption from wage earning when analyzing welfare ...

ProGrowthLiberal said...

What "I'm sick of bullshit economic analysis said" had to say! Incidentally, I answer the comment from JS here:

YouNotSneaky! said...

Yes but, do you disagree with Broda and Romalis? They're paper seems to say that while a bad S-S effect may apply to apparel workers, for poorer workers as a whole the S-S effect is good.

YouNotSneaky! said...

Ay, this is nonsense on so many levels:

"In other words 'trade can make some people worse off' and it's only a hop step and a jump from there to 'trade can make everyone worse off'."

In proofs, one doesn't make "hops steps and jumps". In particular, the distinction between "some" and "all" is, like, you know, important.

Myrtle Blackwood said...

"Ay, this is nonsense on so many levels"

It's a little joke. It's a sendup. Part of an analysis of Mankiw's '10 Principles of Economics' by a comedian who is also an economist. (Look at the reference I gave).

It does have an enormous ring of truth to it, unfortunately. Like the definition of a 'macroeconomist' being: "an economist who get's things wrong generally." [As distinct from a microeconomist who is only wrong about specific things ;-) ]

I might be an environmentalist but I do have a sense of humour. OKAY!

StoP tHE LogGINg oR wE WiLl coNtInUE To KiLl oNe CeleBrITY EacH WeEK. TheRe ARe nO SkIinG aCciDenTS.

Kevin Carson said...

I know I'm beating a dead horse here, but WHAT "free trade with China"?

In corporate matrix reality, globalisation may equate to "free trade," but they're really two entirely different things. What neoliberals call "free trade" is nothing of the sort. It's at least as mercantilist, at least as much a statist construct, as the old model of "Export-Dependent Monopoly Capitalism."

"Intellectual property" plays exactly the same protectionist role for today's TNCs that tariffs played for the old national industries. What's more, the costs of long-distance distribution are largely externalized on states through transportation subsidies. And the main function of government foreign aid and World Bank loans has been to subsidize the transportation and utility infrastructure necessary for overseas capital investment to be profitable. And then there's the role of American foreign policy in promoting and defending, on a global scale, the reenactment of the Enclosures--protecting latifundistas and other landed oligarchs from land reform. Guess where the land for all those nifty "free market" industrial parks in China comes from?

You are pointing to a bunch of turtles sitting on fenceposts, and calling it "free trade." Calling global corporate mercantilism "free trade" is about as honest as calling Stalinism "workers' power."

Myrtle Blackwood said...

Quoting John Maynard Keynes on 'free trade':

"..The divorce between ownership and the real responsibility of management is serious within a country when, as a result of joint-stock enterprise, ownership is broken up between innumerable individuals who buy their interest today and sell it tomorrow and lack altogether both knowledge and responsibility towards what they momentarily own. But when the same principle is applied iternationally, it is, in times of stress, intolerable - I am irresponsible towards what I own and those who operate what I own
are irresponsible towards me. There may be some financial calculation which shows it to be advantageous that my savings should be invested in whatever quarter of the habitable globe shows the greatest marginal efficiency of capital or the highest rate of
interest. But experience is accumulating that remoteness between ownership and operation is an evil in the relations between men, likely or certain in the long run to set up strains and enmities
which will bring to nought the financial calculation. I sympathise, therefore, with those who would minimise, rather than
with those who would maximise, economic entanglement between

John Maynard Keynes



Myrtle Blackwood said...

Quoting George Soros on the free trade of global money:

... A lot of people marked the beginning of the current [global financial] crisis*** in Thailand. But there are others who say that ... the wrong lessons were learned in '94 and '95 in Mexico ...

“Yes. Well, you see, what happened in '94-'95, Mexico had, again, a pegged exchange system, had a trade deficit, and a current account deficit, and the peg couldn't be maintained. There was a crisis. The IMF, under the leadership of the Treasury came in with a very large rescue package, which allowed Mexico to service its debt, the Treasury bills that it had issued, in dollars. So the people who had invested in Mexico came out scot-free. That gave rise to what is considered the moral hazard--that it's safe to invest, even in an unsound economy, because if things go wrong, the IMF and the Treasury is going to bail you out. This is a particularly important factor in Russia, which was totally unsound, but people kept on lending money, because they were convinced that Russia is so important geo-politically, that we wouldn't let them default. It turned out to be false. But it led to this unsound lending and the moral hazard.Opinion has turned very strongly against moral hazard now, which actually creates the opposite problem, that the IMF is unable to come to the rescue, because if it did, it would be accused of bailing out the speculators and the unsound lenders. So it's unable to come to the rescue. Therefore, it's very risky to lend, and nobody wants to lend. So you now have a situation when there is a reverse flow of capital fleeing from the periphery, coming back to the center. Whereas, most of the remedies that are proposed are remedies against excessive investments, excessive lending. The problem now is exactly the opposite….”

***1999 – George Soros on ‘The Crisis of Global Capitalism’. The system of currency pegs and interest-rate arbitrage. It leads to excessive borrowing and large trade deficits which results in the reversal of capital flows causing a global economic crisis. Soros says that the world doesn’t have an appropriate international mechanism for regulating the global financial markets. Bretton Woods, the IMF and the World Bank were created for different world – one in which there was no capital movements. These institutions were designed to make trade possible in the absence of international lending, and so on. You also had, at the time, fixed exchange rates. So the fixed exchange rate system broke down. Global capital markets developed. The institutions, the IMF, is not adequate to meet these circumstances.

The crash. Interview, spring 1999. George Soros