This book is a study of how free trade came to occupy such a commanding
position in economics and how it has maintained its intellectual strength despite
the numerous arguments that have arisen against it over the past two centuries.
The author is Henry Wendt Scholar in Political Economy at AEI. A summary of
the book follows.
The proposition that free trade is economically more beneficial than protection is
one of the most fundamental that economic theory has to offer for economic
policy. This proposition has survived repeated scrutiny from economists ever
since Adam Smith made his celebrated case for free trade in the Wealth of
Nations (1776), and it continues to receive overwhelming support from
professional economists today.
The first half of the book discusses the reasons for the widespread presumption
in economic thought prior to Adam Smith that import tariffs and other government
trade restrictions were likely to constitute a better economic policy than free
trade. Smith’s powerful attack on prevailing mercantilist doctrines and his
defense of free trade reversed this presumption among later economic thinkers.
The second half of the book assesses the most important and contentious
arguments made against free trade in light of both economic theory and the
historical record.
Yet, while not disputing the gains from trade, most philosophers and intellectuals
before Adam Smith still believed that trade should not be free. The earliest
writers were suspicious of merchants and rejected free trade on noneconomic
grounds. Greek and Roman philosophers, fearing the adverse social
consequences of commercial contact with foreign barbarians, argued in favor of
limits on interregional trade. Scholastic and religious writers in the Middle Ages
were generally unenthusiastic about long-distance commerce because of its
negative moral effects, such as promoting avarice, fraud, and excessive attention
to worldly goods and profits.
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The most powerful economic objection to free trade ever developed is the terms
of trade argument. The analogy at the individual or firm level is that if one has
significant market power, in the sense of being able to influence the market price
of one’s output, it may be worthwhile to exercise that market power by restricting
one’s output to raise its price. Similarly, if the ratio at which a country exchanges
its products with the rest of the world depends on the volume of a country’s
exports and imports, government restrictions on trade can potentially manipulate
that ratio to bring about larger gains to that country than would otherwise be the
case. For example, no economist would suggest that Saudi Arabia would be
better off by expanding production of petroleum to push its price closer to its
marginal cost.
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The terms of trade argument generates a unilateral motive for trade intervention:
free trade may be undesirable for any individual country, even though its gains
are achieved by inflicting an even greater loss on its trading partners. Not all
countries, however, can gain if each of them acts upon this unilateral motive and
imposes tariffs in an effort to improve its terms of trade at the expense of the
others. For this reason, international cooperation to establish free trade can
dominate a situation in which all countries seek to influence their terms of trade
through trade restrictions.
Protection has been proposed as being superior to free trade in other instances
as well, many of which rest on the assumption of fundamental differences
between agriculture and manufacturing (or between the primary sector and
processing industries). From the days of the seventeenth-century mercantilists to
the present, manufacturing has been thought to have distinct advantages over
agriculture (or certain manufacturing industries are believed to be superior to
others) in ways that are not fully taken into account by the market (such as their
not being reflected in market prices and therefore not recognized by market
participants). These beliefs have led to the wage differential argument, the infant
industry argument, the increasing returns argument, and the strategic trade
policy argument for trade intervention.
Not just for this important reason has each of these cases failed to overthrow the
general presumption in favor of free trade. They have also foundered under the
weight of manifold qualifications that narrow the range of circumstances under
which the argument is valid. The strategic use of trade policy to shift rents
between countries hinges critically on numerous assumptions about competitive
behavior and market structure. This case, along with the wage distortions
argument, has at least the advantage of being clearly defined with a
comprehensible, underlying economic structure. The infant industry argument
has gone for centuries without being well specified, and it has persisted even
though import protection does not correct the market failures thought to prevent
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In sum, these other arguments for protection are frail in comparison with the
terms of trade rationale. Their propositions are entirely conceptual and theoretical
in nature, even though most cases have drawn upon observable phenomena to
motivate the issue they address. As such, they do not necessarily convey any
indication about their practical importance or any explanation about how they
might be implemented. Each case has fundamental difficulties in its operational
value that serve to keep the presumption in favor of free trade intact. How are
true wage divergences to be identified? Where are rents in international markets
to be uncovered? Which industries are suitable infants? Where precisely are
external economies to be found? These questions are exceedingly difficult to
answer, and exceedingly difficult for economic policy to exploit.
Opponents of free trade usually claim that its champions among economists are
simply dogmatic and ideological in their support of it. This criticism ignores the
close and searching scrutiny to which the analysis behind the doctrine has been
subjected for more than two centuries. Yet it has survived largely intact, and it is
sometimes even strengthened by this examination, as the weaknesses of
proposed exceptions come to be better understood. Free trade remains as sound
as any proposition in economic theory that purports to have implications for
economic policy is ever likely to be. Inquiry, however, is a never ending process,
and the questioning of free trade will never cease.
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