NAFTA, GATT, WTO: ARE TRADE AGREEMENTS GOOD FOR US?

Transcription

1 NAFTA, GATT, WTO: ARE TRADE AGREEMENTS GOOD FOR US? CHAPTER OBJECTIVES When you reach the conclusion of this chapter you will understand that economists generally see that free trade is better than restricted trade and that trade agreements that facilitate the opening of trade are seen by most economists as a good thing. You will understand why economists insist that free trade is good and why it is that agreements to maintain it are sometimes necessary. You will be familiar with CHAPTER OUTLINE CHAPTER OBJECTIVES INTRODUCTION THE BENEFITS OF FREE TRADE WHY DO WE NEED TRADE AGREEMENTS Strategic Trade Special Interests What Trade Agreements Prevent TRADE AGREEMENTS AND INSTITUTION Alphabet Soup Are They Working ECONOMIC AND POLITICAL CONCERNS THE BOTTOM LINE CHAPTER SUMMARY NAFTA, GATT, and the WTO as trade agreements and institutions, and you will know some of the thinking on whether they are working as advertised. You should understand the economic and political concerns that free trade agreements generate but know that the bottom line for most economists is that such agreements are good policy. INTRODUCTION One of the central tenets of President Clinton s economic policy was that free trade is good for the United States. The reasoning was that Americans can and routinely do out-compete their international trade partners. The jobs that were gained and the increases in living standards from such trade would thus outweigh any losses. The foundation for that argument relies heavily on the theory of international trade which we have addressed in the issue chapter titled International Trade. 315

2 NAFTA, the North American Free Trade Agreement, GATT, the General Agreement of Tariffs and Trade, and the WTO, the World Trade Organization are the spearheads of this free trade policy. This chapter will explain the NAFTA : North American Free Trade Agreement (US-Mexico and Canada) GATT: General Agreement of Tariffs and Trade (a world trade agreement) WTO : World Trade Organization (an institution that arbitrates trade disputes) purposes of each and review the arguments for and against them. As a first step we will summarize the theoretical argument for free trade. We will then explicate some of the details of the three agreements we named above. Finally, we will examine, in some detail, the effect of these agreements on trade, income inequality, workers wages, and environmental health. The Benefits of Free Trade The economic benefits from trade are so often assumed to be obvious that economists do not feel the need to explain them. Most non-economists, however, assume that trade is a zero-sum game that can be characterized by the phrase your win is my loss. Nothing could misrepresent trade more thoroughly. Nowhere in the field of economics is there such a discrepancy between what economists know and what noneconomists consider to be the conventional wisdom. If the explanation of this that follows does not lay out the economists argument on the benefits of international trade in sufficient detail, you will find additional information in the issue chapter on International Trade. Suppose that the U.S. and Mexico are the only countries in the world and that they only produce two goods: Low-Tech (LT) and High-Tech (HT). Further, suppose that U.S. workers can make both LT and HT more quickly and in greater numbers than Mexican workers. Why would the U.S. want to 316

3 trade with Mexico when it can produce both goods itself? To see the possibilities, assume that workers in the U.S. and Mexico are divided between high skill and low skill and that everyone is fully employed in both countries. To see how effective they are, assume that Table 1 represents how many workers it takes to produce specific amounts of each good in each country. Table 1 Production of Workers # of workers produce(s) # of goods High Tech Low Tech High Skill Low Skill High Skill Low Skill U.S. 1 produces 1 2 produce 1 1 produces 4 1 produces 3 Mexico 3 produce 1 4 produce 1 1 produces 3 1 produces 1 Table 1 shows that it takes one high-skill U.S. worker to make one high-tech good, that one high-skill Mexican worker can produce three low-tech goods and so on. The suggestion here is that high skill workers in the U.S. are more proficient than anyone else at all forms of production and that Mexican low-skill workers are less proficient across the board. The low-skill American worker is assumed to be better at high-tech production than the high-skill Mexican worker (perhaps because the American is working with better machines) but that the two are equal in low-tech production. If 100 American low-skill workers were to shift from the production of Low-Tech (LT) to the production of High-Tech (HT) and 120 Mexican workers were to shift from HT to LT then there would be 50 more high tech goods and 300 fewer low tech goods produced in the U.S. In Mexico there would be 40 fewer high tech goods and 360 more low tech goods produced. The world (limited in this case to the U.S. and Mexico) would have a net addition of 10 high-tech goods and 60 low-tech goods. Given a 317

4 fair distribution of these gains from trade, each side would be better off. As a result of the increased competition from Mexican low-tech firms, the workers in low-tech firms in the United States would lose their jobs. They would quickly get new jobs in the high-tech firms, however, as increased demand for American high-tech goods increased demand for laborers capable of such production. While there are more than a few places where the argument that trade is good for all can be criticized, it remains the basic position of economists. Most economists are convinced that trade provides increased standards of living and regardless of what workers are displaced, they will always be absorbed into the growing industries. WHY DO WE NEED TRADE AGREEMENTS You may instinctively distrust this economists view of trade and if you do you may be asking, if free trade is so good why do we need agreements to keep it in place? The answer is twofold: one economic, the other political. Strategic Trade Strategic trade policies are policies designed to get more of the benefits from trade in a country than would exist under free trade. On Strategic Trade Policies: Policies designed to get more of the benefits from trade in a country than would exist under free trade the economic front, there are circumstances under which a country can increase its share of the free trade benefits. That is, a country can increase its benefits from trade by putting on tariffs, quotas, and the like; but, if they do, the sum of the benefits from trade to the two trading partners deteriorates. Though the circumstances under which strategic trade is better for a country than free trade are somewhat complicated, one example might shed some light. Suppose a large country is the dominant 318

5 world player in the production of a particular good and another large country is a much smaller player. The monopoly power of the large company can overwhelm the other country s small company. Economists have shown that, at least theoretically, the country with the small company can subsidize its exports and increase its profits by more than the subsidy. The typical example of this has been the Boeing vs AIRBUS competition in the manufacture of large aircraft. In practical terms, AIRBUS s subsidy from France and Britain has been greater than its profits. Special Interests Whenever there is trade there are individuals who see themselves as the losers. Typically, these are the folks who are the most visible. When a plant closes in an American town announcing its plans to move production to a facility in another country, the job losses from trade are obvious for all to see. The jobs created by trade are more difficult for the average worker to see. As a result, workers left with pink slips become vocal opponents of trade and those who benefit from it do not see that they benefit from it. An even greater political problem is if the loser from trade has sufficient political strength to convince elected officials that restricting trade is in the office-holders electoral interest. Again, because many of the beneficiaries of free trade, consumers paying lower prices and workers having better jobs, do not see these gains as attributable to trade, they are far less vocal in favor of trade. There are two groups whose voices are typically raised in favor of trade, business interests, and farmers. As a result, it appears to the political world as though free trade is a battle between workers on one side and big business and farmers on the other. In such a circumstance, though free trade is rather obviously the better outcome to economists, it is not so obvious to elected officials. What Trade Agreements Prevent 319

6 To see how such influences can lead to a deterioration of trade benefits let s return to our hypothetical example of trade between Mexico Tariff: a tax on imports Quota: a limit on imports and the U.S. If the low-skill, low-tech workers in the United States fear that trade will cost their jobs, they can seek a tariff (a tax on imports) or a quota (a limit on imports) from the U.S. government. That will raise the price of imported goods, and it will bring tax revenue to the U.S. government. If Mexico does not retaliate by levying its own tariffs or quotas, our exports of high-tech goods will remain unchanged. This will be good for the U.S., but it will be less good for the U.S. than it will be bad for Mexico. Therefore, and it will be worse for the world as a whole. If Mexico does retaliate it can make itself better off than if it does not retaliate. It will do so with tariffs or quotas of its own. Again, the degree to which Mexico will make itself better off is outweighed by the damage done to the U.S., which will retaliate further. Soon there will be no gains from trade because there will be no trade. Trade agreements prevent countries from starting on the slippery slope of trade retaliation. Because a country is better off with free trade than with no trade, free trade wins. The problem is that countries will always be tempted to raise some barriers in the hope that no one will retaliate. When countries get into a tariff war and retaliation is met with more retaliation, then, not only are any small advantages lost, but also all other advantages from trade are lost. Countries thus need trade agreements in order to keep themselves from the temptation of creating trade barriers. The history and politics of trade is somewhat strange. The first Republican President, Abraham Lincoln, ran for his first U.S. House seat on a platform that called for high tariffs. Such protectionist trade policy was a staple of Republican political philosophy, and it was exemplified by the disastrous Smoot- 320

7 Hawley tariff law of the 1930's. Not until the 1950's did Republicans begin to change and to embrace free trade, and they did so because their constituents in business argued that they could be more profitable with trade than without it. During the same time, Democrats, the party most identified with labor unions, switched from being the free trade party to the protectionist party, and they did so because the unions saw trade hurting their members. In 1993, Democratic President William Clinton started to move his party back to a free trade position just as some Republicans were moving back to their traditional protectionist position. While most Democrats in Congress remain protectionist and most Republicans remain free-traders, it is noteworthy that the most historic trade agreements in U.S. history were negotiated, signed, and ratified during a time that seemed to be characterized by transitions in philosophy. TRADE AGREEMENTS AND INSTITUTIONS Alphabet Soup NAFTA, (The North American Free Trade Agreement) was first proposed by President Ronald Reagan, negotiated by President George Bush (George Herbert Walker), and, after being amended, pushed though Congress and signed by President William Clinton. It created a geographical area of free trade in which the United States, Canada, and Mexico agreed both to 1) very low tariffs, and 2) procedures whereby some tariffs could remain in place. An important element in the agreement was a formalized grievance process whereby disputes could be aired. GATT (the General Agreements on Tariffs and Trade) is another agreement negotiated across the terms of many presidents. GATT set out the conditions under which signatory nations could set tariffs and quotas. GATT came into existence just after World War II, but its most recent version, the Uruguay 321

8 Round, has had the greatest free-trade bent. Even under stretched definitions, GATT cannot be called a free-trade agreement, but it has moved nations in that direction. In reality it simply has made the rules for tariffs and retaliation more explicit. The rules of GATT require that retaliation be proportional. When in 1999 much of Western Europe gave favorable treatment in their banana sales to its former colonies, for example, the United States, at the behest of major fruit companies like Dole, retaliated by threatening a tariff on European leather goods. While the connection between bananas and purses is tenuous, it was deemed acceptable retaliation under GATT. It makes sense under GATT because the trade in question is roughly the same. In operational terms GATT is a here are ways you can impose tariffs and other ways you cannot impose them agreement. The Uruguay Round also took up the issue of intellectual property rights and restrictions. The laws of China, Korea, and other Asian nations at this time had not recognized the right of people to own ideas the way that copyright and patent laws allowed them to in western countries. They engaged in copying and selling copyrighted materials like CD s, books, and computer software with impunity. In addition, much to the consternation of the U.S. government and the industries whose markets were affected, many nations whose television and movie industries were unable to compete with Hollywood limited the importing of American shows and movies. On the issue of copyright infringement, Asian governments promised a crackdown on entrepreneurs openly making and selling copies of widely distributed music and software CDs. At one time there were more illegal copies of Windows 95 (the predecessor of 98, NT, ME, and 2000) in China than legal ones. It was the position of the United States that this represented a theft from 322

9 American artists, producers, record companies, and software producers and, as such, it should be banned. On this issue, GATT recognized copyright infringement as an area worthy of tariff retaliation. Another priority for the United States was the distribution of American made movies and television shows. The American entertainment industry sells its output throughout the world and shows like Baywatch have gotten very high ratings in Europe during the 1990's. Many countries, however, have domestic content rules that require that at least a certain percentage of all movies shown in a theater and programs shown on television be produced 1) in the home country and 2)with domestic actors. The United States objects to these rules because they have the effect of limiting U.S. exports. Even though movies and television programs represent an important area of American export, the final negotiations leading up to the conclusion of the Uruguay Round of GATT in 1997 did not ultimately resolve this issue in favor of the U.S. One aspect of GATT that did go our way was the power given to the WTO, the World Trade Organization. Until 1997 trade disputes involving countries reverted to no more than yes it is fair - no it is not fair spats. There were no institutions charged with the task of resolving the truth in such disputes. The WTO s job is now to resolve those disputes. While having no greater power than to suggest who is in the right and who is not, it is hoped that complaints with and without merit will be separated and that disputes will be resolved more easily. 323

10 The Battle in Seattle For four days in late November-early December of 1999 demonstrators battled Seattle police in what became known as the Battle in Seattle. The demonstrators were protesting at a meeting of the World Trade Organization. The demonstrators spanned the political spectrum. Some were environmentalists protesting what they saw as the threat that trade agreements posed to the health of the environment. Others were labor activists protesting what they saw as the threat that globalization and the increase in international competition meant for wages and job security. Still others were right-wing antiinternationalists who saw the WTO as an attack on American sovereignty. Of the estimated 35,000 protestors more than 500 were arrested over the four-day period. Whether as a result of the protests or not, the meeting ended without an anticipated accord and without even an agreement for when the next meeting would take place. Though the move toward globalization did not end as the protestors wanted, leaders around the world were given an abrupt wake-up call to the potential political consequences of their actions. Are They Working? From the outcomes of NAFTA, GATT and the WTO it is hard to tell which side was more wrong in its predictions, those that suggested a giant sucking sound would be heard as jobs left the country or those that suggested a great export employment boom would result. While trade has grown rapidly between the United States, Canada, and Mexico after NAFTA, it had grown rapidly before NAFTA. While some jobs were lost as firms left to go to Mexico, the overall economy created more jobs in a shorter period than at anytime in our history. So, what was the impact of these agreements? From late in 1995, when NAFTA was fully in place, until late in 1998 trade between the United States and Canada and between the United States and Mexico has increased 30% and 60% respectively. These increases are somewhat misleading, however, in that trade had increased 50% and 75% respectively in the 5 years leading up to NAFTA. The increases in trade left what had been a small deficit for the U.S. with respect to Canada unchanged. On the other hand, it converted a small U.S. surplus with Mexico into a substantial U.S. deficit with Mexico. 324

11 The impact that NAFTA has had on jobs is also in dispute. While the Labor Department has certified more than 100,000 workers as eligible for retraining benefits due to NAFTA-induced job losses, these figures are hotly debated. Some argue that these figures are inflated and represent jobs that would have been lost to non-nafta related competition. Others suggest that the secondary effects of these estimates understate the true impact of job losses due to NAFTA. ECONOMIC AND POLITICAL IMPACTS OF TRADE Of much greater concern to those objecting to free trade agreements than its effects on trade in general is its impact on worker wages, wage inequality, labor treatment in general, and the environment. Before we discuss whether worries about these variables have been borne out as a result of the trade pacts we have been discussing, it will be useful to go through them one-by-one to explain the specific concerns. Average manufacturing wages in the United States are substantially higher than those in Mexico, Canada, and nearly every other nation. If the productivity of workers were the same world wide, you would expect that corporations would move their operations to places where there is cheaper labor. As long as the cost reduction to a company exceeds the increased costs of shipment and as long as there are not any trade barriers, you would expect jobs to leave the U.S.. If workers in the United States are more productive but are not sufficiently more productive to make up for the difference in wages then it is still the case that companies will make more money producing elsewhere and importing the goods into the U.S.. This can be prevented if trade protections are in place to prevent or to at least discourage imports. For the workers whose livelihoods are tied to the exiting industry, it is nearly impossible to argue that they will not be hurt by free trade. What 325

12 advocates of free trade suggest is that there are enough gains from trade to finance a retraining program for workers who are displaced. We need only to look at the number of workers and the quantity of imports in certain industries to get an idea of the magnitude of worker displacement that is involved. Since 1960 industries involved with cars, car parts, steel, electronics, apparel, and textiles have lost significantly to imports. Unfortunately, these industries (with the exception of textiles) provided the best paying low-to-semiskilled jobs around, and their loss has contributed to one of the main problems of the latter half of the twentieth century, the lack of employment prospects for people without a college education. 12 Using the CPI, real wages for production workers in the United States have fallen since while wages for high-skill workers have increased. This increasing gap between the haves and the have-nots has increased the tension concerning trade tremendously. Free trade benefits workers only if they keep their jobs. By and large the educated have kept their jobs and even gotten better ones. For such people the prices of goods they purchase are cheaper than they would be if they were produced in the U.S., and, with jobs that pay well, they have enjoyed a sharp increase in their standard of living. Many people who have lost their jobs, in comparison, have found new ones, but not ones that allowed them to maintain their previous standard of living. The loss of steel production in Pennsylvania, auto production in the midwest, and electronics production throughout the U.S. has seriously lessened the numbers of high paying jobs. It is therefore not surprising that professionals and other highly educated people, are in inevitable. 12 The extent to which trade exacerbates this is debated because this trend may have been 13 This is accurate unless you use a modified CPI as suggested in the chapter on the CPI in which case the real wages for production workers have risen slightly. 326

13 favor of free trade and that people who have been hurt by it, those without a college education, perhaps, are against it. If our trade policy is to move forward on the premise that everyone can be a winner, we will have to insure retraining benefits are available to those who lose out. To do this, some of the benefits accruing to those who benefit from trade will have to be transferred in the form of spending on temporary income assistance and retraining for the unemployed. Another area of significant concern with regard to trade agreements is the treatment both of child labor and labor in general. If industries that were once in the United States have to compete with industries that hire 8 year-olds and that pay them a dollar or less an hour, then either American workers have to be 10 times more efficient or the industry will move. Many Americans not only consider child labor immoral, they think anything that promotes its existence is immoral as well. If they perceive free trade as responsible for promoting child labor, they may very well consider free trade itself to be immoral. It is not just the treatment of children that is of concern. Labor costs are kept down in impoverished countries in large part because workers fear losing even a bad job. The concentration of wealth is so great among the few people who control the industries that employers can get away with threatening workers with an inability to work anywhere. The employers collude to keep wages down. Workers have few rights and, even if they have legal rights, they are unwilling to invoke them against an employer for fear that they will lose the job they have. Such fundamental rights as freedom from physical torture, breaks for regular meal or bathroom visits, a 40 hour work week, and collective bargaining are but dreams to many of the world s work force. 327

14 Free trade gives countries with such a paucity of workers rights a competitive advantage against American and European firms that must pay higher wages and accord workers with better rights. To compete, these Western firms must have efficiencies that their competitors can not achieve with a poorly trained work force. That is not difficult for high-skill areas such as software development, but it is nearly impossible for textile and apparel production. When a job takes very little skill, or it is not intellectually challenging, then a poorly treated, poorly trained, or poorly paid worker can keep up. It is only when the job requires complex thinking that workers who are well- treated, highly-trained, and handsomely paid are going to out-produce the poorly treated, poorly trained, and poorly paid by enough to justify those who hire them keeping production in the U.S.. A last area where free trade agreements are criticized is the environment. The maquiladores, concentrations of industries on the Mexican side of the border with the U.S., produce some of the most toxic substances in the world. Those toxic substances are produced wherever the manufacturing takes place, but how those substances are handled is still important. For instance, in the United States the waste water from these manufacturing plants would have to be cleaned to a near-drinkable standard. In Mexico, however, less than 10% of industrial waste water is treated with that degree of stringency. This is an obvious example of how the comparative advantage gained and exploited via free trade is not wanted or good. Since much of the waste travels along the Rio Grande and affects Texans directly, it would be better for them if production were in the states, even though it would cost more. Free trade agreements can deal with these issues. While it is impossible to impose U.S. labor and environmental standards on other countries, it is possible to set forth principles in the accords that require that the lesser developed countries continually increase standards in designated areas. While 328

15 NAFTA does not do all of this, it does work toward that end. While GATT is less strict than NAFTA, it too requires that signatories adhere to the international treaties on labor rights that they have already signed. THE BOTTOM LINE The bottom line on international trade pacts is this: most economists favor them for two basic reasons. First, economists generally favor allowing people to buy what they want from whom they want and to sell what they want to whomever they want, without restriction, as long as doing so does not harm an innocent third party. Secondly, and more to the point of this chapter, they favor trade pacts because, if they are negotiated with care, such pacts enhance global economic well-being. Though free trade eliminates some jobs in some areas, it creates more jobs in other areas. Some countries with high poverty rates and low wages will gain jobs in areas where training and education are relatively unimportant. Other countries, including the United States, will benefit by being able to sell goods that require highly skilled workers to produce. With regard to free trade, what economists insist is true, is that with income support and retraining, the gains from trade are nearly always sufficient to offset the losses of the people made worse off by trade. What we need to understand is that if the people who gain from trade get all of the benefits and the people who get laid off are forgotten, then free trade is going to be seen and will in fact become just another way the rich get richer and the poor get poorer. One interesting spin on those that lose their jobs is the notion of creative destruction introduced by Joseph Schumpeter. Schumpeter s Creative Destruction: The notion that people need to lose their jobs involuntarily in order to seize better opportunities. 329

16 thesis is that workers desire for job security and their complacency when they have it is such that they do not seek out better opportunities unless they are forced to. If this logic is to be believed then free trade does such people a favor by sending them into unemployment. Because most economists firmly believe that people do what they think is in their best interests, it may be that they know that there are better opportunities out there but are simply more comfortable where they are. This would suggest that unemployment is not really a favor. However, it is just not as bad as many fear because the massive and burgeoning service sector in the U.S. has absorbed many of those whose jobs have been lost due to trade. Whether or not we have NAFTA, GATT, or any other trade agreement, what labor unions, workers, and young people in general have to understand is that the days are over when graduating from high school is enough to get a job that earned middle class wages. The trends toward more mechanized manufacture are inexorable. The jobs that are available now are in operating or designing the new machines. These jobs, moreover, require training and higher education. In addition to the economic side, NAFTA s diplomatic benefits can not be missed. Not since the Panama Canal treaty has Latin America been treated as well by the United States as it has as a result of negotiations with NAFTA. In the past their sovereignty has been threatened by the U.S. on more than a few occasions. NAFTA now implicitly recognizes Mexico as a partner with both the U.S. and Canada in the development of the Western hemisphere. CHAPTER SUMMARY As a result of completing this chapter you now understand that economists generally see that free trade is better than restricted trade and that trade agreements that facilitate the opening of trade are seen 330

17 by most economists as a good thing. You understand why economists insist that free trade is good and why it is that agreements to maintain it are sometimes necessary. You are familiar with NAFTA, GATT, and the WTO as trade agreements and institutions and you know some of the thinking about whether they are working as advertised. You understand the economic and political concerns that free trade agreements generate, and you know that the bottom line for most economists is that such agreements are good policy. NAFTA GATT WTO KEY TERMS Tariff Quota Creative destruction 331

18 Quiz Yourself The ultimate reason that trade agreements are necessary is that a) countries can, in certain circumstances, improve their own well being by decreasing tariffs but the world is worse off when they do so. b) countries can, in certain circumstances, improve their own well being by increasing tariffs but the world is worse off when they do so. c) farmers need to be assured of access to other markets. GATT is a) a free trade organization. b) a treaty setting out the rules for when tariffs and quotas are appropriate. c) a law limiting trade. There are no circumstances when it is in a country s economic interest to limit trade a) true b) false NAFTA has led to a) a substantial loss of American jobs to Mexico. b) a substantial increase in trade well in excess of what would have happened anyway. c) a substantial loss of Mexican jobs to the U.S. d) none of the above. Tariffs and quotas are typically enforced throughout the world a) for political reasons particular to the countries that enforce them. b) for economic reasons because these trade limitations make the individual countries better off. c) for moral reasons to limit the importation of goods made with child labor. d) none of the above A central reason that economists generally favor free trade agreements is that a) everyone affected by free trade is made better off. b) it always makes poorer countries better off and richer ones worse off. c) the aggregate gains are sufficient in every country affected to offset the losses to negatively impacted individuals. d) none of the above Think About This One of the keys to the size of the gain from trade is the differences between them. Most trade agreements, though, end up being between countries that are fairly similar. What might explain this contradiction? Talk About This 332

19 If you knew a piece of clothing was made with child labor and you knew a substitute was made by American union workers, would you pay more for the American made good? How much more? For More Insight See Husted, Steven and Michael Melvin International Economics Reading MA Addison-Wesley 1997 (specifically see chapter 8) Krugman, Paul R. and Maurice Obstfeld International Economics: Theory and Policy Reading MA Addison-Wesley 1997 (specifically see chapter 11) The Seattle Times December 4, 1999 and the Seattle Times WTO web page The banana-trade row, Economist, April 10, 1999 China and the WTO Economist April 3,