How to fix free trade

Modern economics teaches free trade can be a powerful policy to create better jobs and growth but only if the right conditions are met.

The idea is quite simple. Negotiate agreements that lower tariffs and other regulatory barriers to permit each nation to export more and specialize at what it does best.

The folks at Apple grasp this instinctively. They sell the software behind the iPhone globally but produce the gadgets in China. This creates more design jobs in America but eliminates some assembly jobs

Americans get richer if exports—and jobs making those products—grow enough to balance trade and maintain overall employment.

As a former U.S. trade official, I know negotiators work tirelessly to ensure new exports opportunities equal additional imports. But for those expectations to be met, other countries cannot take actions that frustrate the additional market access Americans expect to gain from trade agreements.

Particularly important, foreign governments have often suppressed the value of their currencies against the dollar to make their exports cheaper and U.S. products artificially more expensive in their markets.

According to the World Bank, if China’s currency were trading at a rate that actually reflected the cost of making things in the Middle Kingdom, its value would be about 3.53 to a dollar but instead it trades at 6.50.  It accomplishes this feat through limits on foreign investment in China and direct controls on foreign exchange transactions by businesses and individuals.

As China has lowered tariffs—as required by its entry into the World Trade Organization in 2001—it imposed other barriers. For example, it offers preference in drug approval processes to firms that relocate operations in China.

These problems are repeated in commerce with other countries, because neither the WTO nor its sister organization the International Monetary Fund adequately discipline competitive devaluations of currencies, and the sheer scope of regulatory mercantilism is so difficult to police.

The United States imports about $500 billion more than it exports and that requires the United States to borrow from the rest of the world. It begins with foreign governments buying Treasury securities but ends with foreign investors buying U.S. real estate and industrial assets. All those result in continuing payments by Americans to foreigners and leave less money at home to support families and the needs of government.

For an undercapitalized developing country, foreign investment of that sort—and an accompanying trade deficit—can accelerate growth and modernization but America has no such need.

Since the United States prints the world’s currency—foreign central banks hold Treasury securities to back up their currencies—a small U.S. trade deficit is required to accommodate expansion of those reserves. But those needs hardly justify a $500 billion gap.

Overall, the trade deficit is costing Americans about 4 million jobs, directly, and more than 6 million jobs adding the lost spending of those workers on other domestic products. And as workers have difficulty moving from industries adversely impacted by imports to exporting activities, the trade deficit is an important reason so many fewer adults in their prime working years are employed these days.

As manufacturing supports so much RD, lost investments in new technologies are lowering U.S. growth and are important reasons why growth is so much lower in this century than during the Reagan-Clinton era.

If trade is to work for America, we simply need better trade agreements—agreements that address currency manipulation and block governments from erecting new barriers to replace old ones.

China is hardly alone in its transgressions but as it accounts for more than 60 percent of the U.S. trade deficit, it is hardly irrational for Donald Trump or Bernie Sanders to suggest that fixing free trade begins with a focus on the Middle Kingdom.

Peter Morici served as Chief Economist at the U.S. International Trade Commission from 1993 to 1995. He is an economist and professor at the Smith School of Business, University of Maryland, and a widely published columnist. He is the five time winner of the MarketWatch best forecaster award. Follow him on Twitter @PMorici1.

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