The West Is Turning Against Free Trade, Again by Diego Zuluaga, Foundation For Economic Education
his article is based on a presentation delivered at the Restructuring of the Global Economy (ROGE) conference at Oxford University.
It is a pleasure to address this conference on the Restructuring of the Global Economy. It is a timely and important topic indeed. The world economy is undergoing a large degree of restructuring as a result of both the rise of China and other emerging markets, and in the wake of the 2008 financial crisis.
However, I am not sure that the current direction of change is a desirable one. Across the world, there are signs that the globalist consensus around free trade and open markets is unravelling, not least in the two places which were central in creating such a consensus: Europe and the United States.
We should be concerned: free trade has been responsible for a large proportion of the dramatic drop in poverty rates across the world in the last fifty years. A return to protectionism would slow down the economic development of the poorest countries, and make us all worse off in the process. We have been there before – and it didn’t look pretty.
Together with technical innovation, free trade is one of the key drivers of rising productivity and resource efficiency, helping to increase living standards. As economists identified long ago, freedom of exchange within and between countries enables people to focus on their comparative advantage, and to buy the rest from others. Free trade makes the sort of specialisation possible which led Adam Smith to marvel at the efficiency of his proverbial pin factory. Crucially, free exchange gives consumers greater choice at lower cost than any other alternative.
It should not come as a surprise, then, that the rise of international trade is, historically, very strongly correlated with growing incomes. Consider the share of world trade – imports plus exports – in world GDP from 1500 to the present time. The first thing that becomes apparent is a dramatic speeding up of the rate of growth in world trade beginning in 1800, and especially in the second half of the 19th century. This period was marked by the repeal of the Corn Laws in 1846, which inaugurated seven decades of global free trade underwritten by Britain, the leading economic power of the age.
Now consider real GDP per capita in Europe, the United States, and other regions and countries going back to 1600. Income per capita stayed constant for the two-and-a-half centuries until 1850, but from then on, there was perceptible growth at an accelerating rate. GDP per head in Western Europe jumped from $1,000 in 1825 to $22,000 in 2008. In the U.S., real income per capita grew 30-fold over the same period. Not 100 per cent, not 200 per cent, but 3,000 per cent.
Let’s consider for a moment the economic transformation experienced by Western countries in the last period of globalisation before the current one. That is, the period between the repeal of the Corn Laws and the start of World War I. Between 1870 and 1913, national income per head doubled in France, Germany and the USA. The UK, starting from a higher base, saw a two-thirds increase, while Spain, which was lagging behind while its peers modernised, experienced a smaller but still perceptible 50 per cent jump.
The second half of the nineteenth century was defined by open borders for goods, capital and people. In addition to the free flow of capital, goods and raw materials around the world, the age was characterised by free movement. 40 million Europeans took advantage of open borders to settle in the New World and power the economic development of the United States, Canada, Argentina and Mexico, among others. The wealthy also got around, able for the first time to travel hassle-free to distant corners of the world.
The combination of free trade and free movement meant that, as Keynes described it, the comparably well-off had access “at a low cost and with the least trouble, [to] conveniences, comforts and amenities beyond the compass of the […] most powerful monarchs of other ages.” Most noteworthy, perhaps, is that – as Keynes notes – this was seen as the “normal, certain, and permanent” state of affairs.
With living standards increasing across the board thanks to free trade and free movement, the globalising period between 1850 and 1913 was a good time to be alive when compared to what had come before. But it was cut short by an event which – as Keynes’ quote implies – few could have expected and even fewer could have predicted: World War I.
The Great War not only pitted the powers of Europe against one another, leading to a death toll of 17 million. It also put a swift end to free trade and open borders across the world. The old order would not be restored at the end of the war. Trade volumes ceased to grow from 1914 and became much more volatile after 1919. The onset of the Great Depression from 1930 then led to a drop in world trade. Part of this decline was due to slowing economic activity in North America and Western Europe, but rising protectionism played a critical role.
The United States kicked off the race with the passing of the Smoot-Hawley Tariff Act in 1930, which raised import prices for over 20,000 goods to record levels. America’s most important trade partners – including Canada, France and Britain – retaliated with tariffs of their own. Germany pursued a course of autarky, or economic self-sufficiency, especially after the coming to power of Hitler’s National Socialists. Before anyone noticed, the old free-trade order had unraveled.
But the 1930s were not only a time of economic malaise and rising input prices. The decade was also marked by growing political instability within and between countries. And, while many factors were at play in the increasing tensions, one should not discount the role played by protectionism. We should remember that protectionism is the economic branch of nationalism: it aims, above all, to shield domestic industries and workers from foreign competition, even at the expense of consumer welfare.
Protectionism replaced the old win-win understanding of free trade with a zero-sum mentality which viewed a competitor country’s loss of export markets as the importing country’s gain. The economists who warned that making one’s own production costs higher could never be the source of greater prosperity were ignored. What is more, Germany’s autarkic model seemed to vindicate the Nazis’ expansionist ambitions. After all, if Germany was not to import anything from abroad, it would need to ensure there was plentiful domestic supply of labour and raw materials.
The consequences of the policy mistakes of the 1920s and 1930s would be enormous and long-standing, as we know. When it came to free trade, the world would never be the same again. And it would take until the 1960s to consistently surpass the pre-WWI high water mark of global trade volumes. The revival of open trade was spearheaded by the world’s new economic powerhouse, the United States, through international institutions such as the World Bank, the IMF and, most importantly, the General Agreement on Tariffs and Trade, or GATT.
This was a very