On January 23 President Trump removed the US from the Trans Pacific Partnership, also known as the TPP. The TPP was a free trade deal among 12 Pacific nations that was to remove some 1,800 tariffs from goods and services traded among member countries. That’s a lot of tariffs. Removal of these tariffs would make trade between the US and Asia easier, allowing more US exports to, and cheaper imports from, the region. (A quick primer on tariffs and international trade is in the box below.) The TPP was also to enable the US to achieve two strategic initiatives: 1) A stronger presence in the Pacific against a growing China, and 2) A remedy for intellectual property protection. Currently part of the difficulty US firms have selling to the rapidly growing Asian markets is the lack of intellectual property protection; their goods can be easily copied and bootlegged. The TPP was to help address this.
So, on the surface the TPP seemed like a great deal; the culmination of 7 years of negotiations, and it’s a shame that the Trump Administration axed it. Right? Well, that depends on if you are an idealist or a realist.
Here is a quick primer on tariffs and free trade.
A tariff is a tax on an import. Countries use them to increase the price consumers have to pay for that import in order to limit its demand. In a world without tariffs, prices among parties trading are based on the relative value of those products. Mexico produces grapes cheaper than California, but California makes wheat cheaper than Mexico. Therefore, California and Mexico will trade wheat and grapes with each other, allowing California to get grapes cheaper than it would pay to grow and pick them itself, and Mexico to get wheat cheaper than it would cost for Mexico to grow it itself (namely Mexico’s climate isn’t suited to make good wheat). This trade pleases the California wheat growers, they have more demand, but the California grape growers don’t like it, and there are more of them than the wheat growers, so they have a bigger political clout. The California grape growers will then petition their government to protect their jobs by applying a tariff to Mexico grapes. Now those grapes are artificially more expensive; the price is no longer only reflective of the cost and profit the Mexico grower wants for his grapes, it now has a higher cost. The Mexico grower will pass on some or most of this higher cost to the consumer, resulting in more expensive Mexico grapes, which Californians will buy less of. Mexico can retaliate by charging a tariff on California’s wheat exports. We now have a trade war, resulting in more expensive grapes for Californians, and more expensive wheat for Mexicans. A free trade agreement, like NAFTA or TPP, seeks to remove these tariffs. However, free trade agreements tend to hurt (particularly in the short term) the workers of the industries that the tariffs were there to protect. So by joining NAFTA, the tariff on Mexico grapes is removed and the tariff on US wheat is removed, so the prices fall and consumers on both sides enjoy the benefits. However the California grape growers loose demand and therefore have to lay off workers, and the feeble Mexican wheat industry may close down all together. This is part of the reason free trade agreements are contentious, and, is a valid point that we will revisit later in the post.
Ideal vs. Reality
The TPP looked to be a good deal for US consumers and firms. For workers, it would have been great dependent on the U.S. doing something it has a fairly poor track record of doing: investing in education.
In the shaded box above I gave an example of a gain from trade, California exporting wheat to Mexico and importing grapes, and both Californian and Mexican consumers being better off with cheaper grape and wheat prices. This is a very simple example. In practice, trade is a lot more complex. For one, multinational corporations use free trade agreements to move production of their goods to other countries by outsourcing. Outsourcing allows the US company to gain some of the savings from more efficient production in a cheaper place, while still maintaining the benefits of being a US company. Outsourcing is also, of course, controversial and a main contention for free trade agreements. Consumers don’t mind paying for cheaper goods, but they do mind when jobs leave the country in pursuit of more efficient production abroad.
When these jobs leave, we cold economists call it ‘structural unemployment.’ The solution to this is to move those workers that lost their jobs into new industries which are less likely to be outsourced. This move would require new training and possible relocation, which in an ideal world, would be paid for by some of the savings made by the company for moving the job oversees, or through the government after collecting those savings.
These newly trained workers will then go work in another industry, one less likely to be outsourced in the short term, and one that would conceivably pay more money. They may even have to move to another part of the country for this new job. For example, taking an unemployed auto factory worker in Michigan retraining him, then having him work at medical equipment factory in South Carolina.
But this is ideal, and real life is not ideal.
The problem with the ideal scenario is that a lot of people in the US don’t necessarily want to move or learn a new trade. They want their jobs and communities to reflect how they were during America’s manufacturing golden age. Make America Great Again. This isn’t just a US phenomenon either. Across the rich world, workers in traditional manufacturing jobs are watching their manufacturing towns diminish. In order for the ideal scenario to happen the out of work worker might be required to move to another location for work at another industry, which is easier on paper than in real life. Also that government spending on job training is imperfect and takes time. So we are left with a worker who is out of work, whose town is loosing its manufacturing overseas, and who has limited access to the education needed to retrain for a new job. This breeds anger, depression and discontent, which are the perfect qualities for an opportunist politician to pounce on. Trump’s message was about jobs, but it was not a message of “we are going to train you, bring in new jobs, technologically advanced jobs, and hey you may have to move.” Instead it was “we are going bring your old jobs back!”
So, given the current political climate, the death of TPP was probably a good thing. We, as a country, are not yet ready for another wave of free trade—we aren’t equipped to handle it. Not that this will stop future waves, the TPP will be back in some other form years from now, but right now in the short term, America is not ready.
However, we can be ready. All we need to do is invest in education and force the winners from trade to shoulder more of the costs
To see how workers can be protected while joining a large trade agreement, look to Norway and Sweden. Upon joining the Eurozone both lost a portion of their domestic manufacturing for goods that were produced cheaper in mainland Europe. But because these countries are socialist democracies, they invest a lot into social programs, including education. Many displaced workers were able to receive training and assistance to find jobs in another industry and are generally better off. A Trump style candidate would have trouble drumming up much support in Norway to “Bring Back Norwegian Jobs.”
Trade also produces a lot of savings. Some of those savings are realized in the form of cheaper prices for consumers. Some savings go to the producers as profit, some of it goes to the bankers, lawyers and trade professionals, as fees. It’s a lot of money, trillions of dollars a year. And this money needs to be better reallocated to the displaced workers, the people who have short-term losses as a result of the trade.
The Winners should pay more
The World Economic Forum just held its annual summit in Davos Switzerland, which brought together heads of state and industry to discuss global economics. Many of the attendees are those that have become very wealthy off the savings realized from trade. These are the “globalists” that are viewed with scorn by the factory worker laid off in Erie, Ohio whose job was outsourced. The disdain, however, is misaligned. These people did not create the wave of globalization; that was done by billions of people looking to get stuff done better, cheaper and faster. These globalists are just surfing that wave. However, they now have a moral obligation to help those that have been left in the wave’s wake. More money should be sent back to the communities and individuals displaced. Ford should not be hit with a 45% tariff on cars made in Mexico that it wants to sell in the US, as the current administration suggests, they should be hit with the requirement that a portion of the savings realized from offshoring a plant have to go towards re-training displaced workers. And workers should not be lied to that one man, or one party, can upend globalization and bring back all our jobs. Those jobs are gone. The politician should be telling them they will work with them to get them thriving again in new industries. Both of these solutions are more complicated that threats, big, talk and tariffs, but both of them would be more effective.
Our current national discussion on jobs and the costs of globalization is remedial. We are discussing short-term fixes, like protectionist tariffs, or revitalizing outdated energy sectors. This is not doing justice to the people it aims to protect. Globalization is not going to stop. (People are not going to give up their chicken sandwiches). We have to approach it with long-term strategy, be honest with those who will loose from it in the short term, and make sure the winners are helping with the costs.