by Pierre Lemieux
Regarding the offer of the Chinese government to force or incentivize (or stop disincentivizing with import barriers) Chinese importers to buy $70 billion more in food and energy products from America, a story in the Wall Street Journal of June 5 says:
U.S. officials … argue that Chinese energy purchases would largely divert U.S. sales to other nations and have no overall impact on the U.S. trade deficit.
The problem is much deeper than what these U.S. officials believe. Anything imported from America by Chinese firms or consumers is diverted from others, whether from other international importers or from American producers and consumers. The resources going into anything exported from America to a foreign country could have been used to produce goods for the residents of other countries or for Americans. (Exports are, by definition, the use of domestic resources to produce goods and services for foreigners.) The increased corn exported to China could be used instead to feed Americans or animals that American eat.
I can imagine two ways around this. First, if there are unemployed resources (labor, land, machines, steel), they could be put to work to produce more stuff for the Chinese–a Keynesian sort of argument. But it does not contradict my argument above, because these resources could also be put to work to produce more stuff for Americans.
The second case would be constant returns to scale in the industries producing supplementary exports to China. Assuming this is true (a big assumption, even more so in the short run), American resources would still be diverted away from Americans or from other export industries. Producing more corn or soybeans requires resources that can’t be used to produce other goods and services. Americans will have fewer hamburgers because burger flippers will have gone to mine coal or work on farms.
To import more, Chinese importers would probably have to bid up the prices paid to American producers, which means that some American consumers or firms would reduce their quantity demanded. This is another mechanism by which what is exported to China is not consumed by Americans.
This raises the question of why “we” export. The answer is that “we” don’t, except in a highly and dangerously metaphorical way. Some American laborers, capitalists, and land owners export, because they have a comparative advantage in what they produce and they can profitably supply more than what Americans want at world prices. Some other Americans import from China using the yuan that Chinese importers dump on the foreign exchange market in exchange for dollars they need to pay American suppliers. An equivalent answer is that “we” export corn in exchange for toys, and both “we” and “they” get more corn and more toys than otherwise possible–which is another way to see comparative advantage.
Trade necessarily divert resources, but it’s to the benefit of both buyers and sellers, on each side of the political border. When government intervenes, the benefits are reduced on both sides, and the more so if each side’s government intervenes.
READER COMMENTS
Scott Sumner
Jun 5 2018 at 5:57pm
Great post.
Pierre Lemieux
Jun 5 2018 at 10:08pm
Thanks, Scott. Yours are always great.
Bruno Duarte
Jun 6 2018 at 2:29am
This is, of course great writing Pierre. Thinking of the world’s welfare though – I’m a bit unsure whether we could effectively not afford what we need.
Whereas you’re right in price terms – American consumers couldn’t own mobile phones if it were not for Chinese consumers wanting to fly off on vacation now and then.
But in quantity terms…. The world is in surplus. True, democratisation was more than political and its economic aspect actually legitimises the politics of it.
This leads me to believe comparative advantage (at least in some industries) is now measurable in consumer preferences (product qualities and characteristics, intra-industry) rather than product quantities (product types, inter-industry).
OECD concludes IIT is more than 60% of exchanges for several countries – including the United States. Of course this implies worldwide value chains such that what I believe happens is a geographical reallocation of natural and social endowments considering demand-measured utilities, rather than “sacrificing” (Bernanke on MRW) output to meet foreign demand so we can purchase different goods.
In other words, I disagree with your writing “Americans will have fewer hamburgers because burger flippers will have gone to mine coal or work on farms.”.
I believe this industrial capacity was idle because the industry saturated domestic demand (my “world in surplus” assumption here is crucial) and now must suffice foreign demand (read: other consumer preferences) to earn a living.
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It may seem a detail – but compute (production) adjustment costs in “your” world and we’d see the foreign bid up of domestic prices would probably be much higher than it is today.
In “my” world, it’s just a sign of consumer preference for a scarce good.
I believe the Chinese produce electronics because they had idle capacity to do so as there was no domestic demand; not because they chose to stop producing steel (actually, just look at Chinese steel overcapacity…).
Pierre Lemieux
Jun 6 2018 at 7:12pm
@Bruno Duarte: Although I know you used this only for rhetorical purposes, I would object to there being two worlds, yours and mine. Whatever one ends up believing, there is basically only one world of economic analysis that (to simplify a little bit) goes from Adam Smith to Gary Becker and Jim Buchanan. It is useful to learn what we can learn from this analytical tradition (and there is much to learn). On over-production or under-consumption, a good start is the recent article of The Economist on Jean-Baptiste Say. But Say’s original should be read too: A Treatise of Political Economy (1803) provides enlightened discussions of many points that are important for understanding the economic approach and for what you seem to be saying. After that, the sky is the limit, but I would recommend, as an accessible but structured text on modern microeconomics, a book by David Friedman (are you the Econlog reader to whom I recommended it before? if so, my apologies for repeating myself): Hidden Order: The Economics of Everyday Life (1996).
Bruno Duarte
Jun 9 2018 at 4:33am
@Pierre Lemieux: Thank you yet again. I must learn so much more, yes I do. Pardon for the rhetorical device’s crudeness, it referred to different interpretations of economic facts rather than a dislocation of my perspective from that of many others. Friedman’s book tops my Summer reading list already – and yes, that was me, thank you; apologies are unnecessary when repeating good 🙂
Thank you very much for the reference to Say’s work: unknowingly, what I wrote is linked to his writings and to yours too. In what I disagree is the resolute creation of demand by supply.
As the linked article describes (thank you yet again) the mismatch between supply and demand is signalled with lower prices for those producing above apparent demand and price increases for the opposite case.
I agree it is the whim of hatters and cobblers that determines prices, an expression of the interaction between the two. But I also believe economies may not grow beyond full employment of resources, be them labour or stone.
Product life-cycle theory reconciles Say’s flaw stated in the article (that there may not be scarcity of aggregate demand) with debt: we observe empirically that both young firms fail to attract enough demand as it is evident that excess debt leads to an inflationary bout (were it not counteracted by higher Central Bank interest rates). This latter observation is consistent with Say’s own that “an undersupply of money leads to an oversupply of goods” (and hence, if I may add, deflation).
My perspective does not clash with yours, Pierre (and if it did it would be wrong).
We agree that domestic factor reallocation happens when exporting. What we don’t seem to agree on is whether demand is expressed through price (as you seem to suggest) or through quantity.
I read the link (to this blog) on Keynesianism. It does read prices are sticky and we observe that. Quantity is more volatile. Except for diminishing returns’ industries, is it not possible to foresee that an industry exhausts either its input factor or its market? Or that demand is insufficient to meet supply?
Empirically, observe the bicycle surplus in China’s cities. A report on this market finds (statistical quality is arguable) that it is not price but consumer preference that guides demand.
Even in China, with so much evident output waste, production plateaued at about 80 million yearly two-wheelers.
This is when our views of the world differ: why would this situation happen if demand from another country could just bid up prices in other industries and reallocate resources? The adjustment costs of moving labour and machinery, the strength of public argument in favour of this industry, or maybe the distributive inneficiency of downstream services industry – apparently prevented those producing the Dandy Horse from producing other goods.
Conversely, this industry’s (and many others’ perhaps) idle output and consumer surveys indicate that, although the price is right, entrepreneurs kept investing to surplus when meeting consumer demand, instead of reallocating resources to other endeavours.
This is because (and reconciling our views of the world) there was fierce price competition leading to wasted output. Notice also that oversupply led the Chinese brand ofo to depart to other markets; and that the loss of social value (perhaps due to perceived oversupply, as anedoctally evidenced by numerous reports to the police of bikes littering the streets of Shanghai) meant destroyed bikes and withdrawal of 36% of Shanghai’s fleet.
What this short example says to me is that as technology lowers production costs (and population growth is subdued) firms would rather produce such that prices become so low that consumers become indifferent to it and compete on commodity before reallocating production factors – and eventually exhaust demand leading to oversupply.
If this is the case, firms must either idle their production resources or export elsewhere. This happened after the price mechanism is exhausted as a supply and demand adjustment mechanism. Hence, I don’t agree that Chinese consumers shall have less bicycles – rather that the production factors allocated to bicycles sufficed demand and entrepreneurs must either:
– innovate by increasing technology spending (self-driving bicycles that ensure folk have a return ride?) to meet consumer preferences or
– reallocate to other industries.
Bear in mind that I don’t intend to say industries are likewise regardless of what factors are used: if you write about it, I’d be glad to give my view on the appropriate post.
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Thank you (it must be the fifth thank you) for stimulating my learning and for recommending readings. What I intend to write is some sort of supply-side Keynesianism (in that it assumes sticky prices) and tries to be an observation, not a prescription.
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