The Myth of Free Trade

The Pooring of America

Ravi Batra

• Publisher: Atria Books
• Year: 1996
• eBook ISBN: 9781439105245
• Topic: Business
• Subtopic: Business General
• Index: Business

As an antidote to our economic ills—the federal deficit, our reliance on foreign imports, widespread downsizing, environmental destruction—Dr. Batra sets out a five-year plan for economic revival that includes raising tariffs on imports, banning mergers among giant firms, and encouraging domestic competition by splitting huge corporations into smaller units. In a front-page story in the Wall Street Journal, Pat Buchanan named The Myth of Free Trades as one of the cornerstones of his protectionist economic policy. Written by Dr. Ravi Batra, bestselling economist and author of The Great Depression of 1990, The Myth of Free Trade throws down the gauntlet to economic orthodoxy and challenges the gospel of free trade. Dr. Batra states that "laissez-faire has wrecked U.S. industry and shattered the American dream."

1

In Search of a Culprit

Nineteen ninety-one was a year of ultimate irony for the United States. It began with a stunning American victory in the Gulf War and ended with the collapse of the Soviet Union, leaving the United States not only victorious in the long, bitter cold war but also the sole superpower in the world. Yet Americans were smitten with gloom. Instead of celebrating their victories, one unexpectedly swift and the other unexpected, they were moaning and groaning about the future. The general mood revealed at best apprehension and anxiety, at worst, a sense of impending doom.

What was wrong? Was it the recession that had begun in July 1990? Or was it some hidden cause, eluding experts and amateurs alike, that had its roots in distant years?

At the end of 1991, the pundits, normally locked in perpetual conflict, were in agreement on at least one point: the recession that had begun a year before was too shallow and mild to create the general American mood of gloom. It was, after all, not all that unexpected. Economists had looked for it throughout the 1980s. In fact, it had come after an eight-year-long expansion, unprecedented in U.S. history.

The street panic at the end of 1991 easily bested that of the deep recession of 1974-75; it even dwarfed the panic of 1981-82, when the United States suffered the worst slump since the Second World War. In no respect was the recession of 1990-91 as severe as the preceding downturn.

In a cover story, Time was moved to ask, “Well, why are Americans so gloomy, fearful and even panicked about the current economic slump? … Inflation is at the lowest level in five years, and home mortgages are available at interest rates not seen since 1974…. The official unemployment rate is nowhere as severe as it was at the depth of the 1981-82 recession, and the contraction in the gross national product (so far 1.4%) has been far less sharp.”¹

Between 1990 and 1991, 1.7 million jobs were lost, but during 1981-82, the loss approached 3 million. Moreover, the New York Stock Exchange broke six records in a row at the end of 1991, whereas in the previous recession the stock market had repeatedly hit lows for the period. Yet all these statistics, to paraphrase Mark Twain, were damn lies. “In one of history’s most painful paradoxes,” Time continued on the same page, “U.S. consumers suddenly seem disillusioned with the American dream of rising prosperity even as capitalism and democracy have consigned the Soviet Union to history’s trash heap.”²

The American gloom of 1991 was more deep seated than indicated by that year’s mild and seemingly innocuous slump. A number of negative trends that had been nagging the public for years had now come to the surface. Debt among consumers, corporations, and the government had been rising; educational standards and achievements had been on the decline; productivity growth had been stagnant.

Inequality had begun a slow but steady rise, shrinking the middle class; soaring imports had decimated industry after industry in many parts of the United States; millions of Americans were without health insurance and medical care; the environment was suffering increasing abuse and pollution; urban roads and bridges were full of potholes; families were breaking apart; drugs and violence pervaded the schools and the streets. To top it all, the government was all but paralyzed, unable to lead the country out of the spreading morass.

All these festering wounds were hidden just beneath the skin as long as Americans had hopes about their legendary dream. Despite increasingly ominous signs, the official propaganda, reminiscent of the behavior of the former Soviet Union, quieted the simmering anxiety of the public during the 1980s.

The histrionics and communicative skills of President Reagan had kept American hopes alive. The gross national product, after all, was still growing; per capita GNP continued its upward trend; the U.S. economic machine regularly churned out millions of new jobs. Foreigners found America to be so attractive that they poured hundreds of billions of dollars into U.S. assets. What else could you ask for?

Never mind that the prosperity was bought by record debt, or that the foreign fondness for America was sudden and thus suspicious, or that billionaires and centimillionaires, along with the homeless, were mushrooming, or that banks and savings and loan associations were straining, or that the manufacturing hub was rapidly shrinking. Never mind all that.

As long as people had jobs, even at subsistence wages, nothing else—debt, deficits, productivity slack, family breakdown, political corruption—mattered. America was still a great country in the mind of its public. The winners of the Super Bowl still called themselves world champions, even though American-style football is limited to North America; the victors of the World Series were still the world conquerors.

Politicians continued to brag about America’s superiority throughout the 1980s, and the public was seduced by all the rhetoric. But the slump of 1990 shattered the fake cocoon of job security.

Around Christmas 1991 General Motors announced it would lay off 75,000 workers over the next four years; International Business Machines put its new layoffs at 20,000, in addition to the same number it had laid off before. These firings seemed to be endless and created the feeling that few had a secure job. That’s when the American anxiety, heretofore drowned by shrill official trumpets, erupted in a floodtide. The endless optimism of the roaring 1980s gave way to the endless pessimism of the 1990s, despite, as mentioned earlier, the richly deserved American triumphs in the Gulf War and the cold war.

Today, few doubt that the United States has been in a long period of economic decline. Official statistics, numerous and self-contradictory, cannot mask what the general public feels. The gloom is too widespread to be silenced by barren averages such as GNP and per capita income, which confuse the prosperity of the few with the mediocre living of the masses. Even those who in their self-interest have to tout the government optimism now concede that the country has slid into a long economic malaise. The productivity slump, after all, is not a sudden development.

Some believe that the U.S. economic erosion began in 1973. Time quoted Allen Sinai, chief economist of the Boston Company, as saying that “the 1973 period marked the beginning of the decline of the American standard of living.”³ This statement is a shock to all those who have been led to believe that the 1980s were a decade of unprecedented boom; yet it contains a germ of truth. Despite vast official propaganda to the contrary, the reality, as subsequently made clear, is that the so-called prosperity of the 1980s was a mirage, a façade, and a big lie. Thus, on the eve of the 1992 election, the country had suffered twenty years of steady economic erosion.⁴ In a nation of free press and full freedom of speech, it is a great credit to the government’s statistical machine that this ugly phenomenon took two decades to surface.

What is the cause of this long decline? Why is something happening in America that has never occurred in its history extending over three centuries? The question actually contains the seeds of the answer.

Never in its history has the United States faced declining prosperity over two decades. Even during the Great Depression, so cataclysmic in its sweep and effect, the country suffered for only one decade. Nothing like the Great Depression has afflicted the nation again; but the steady erosion of the living standard since 1973 has moved some economists such as Wallace Peterson to call it the “silent depression.”⁵ Silent or not, it is clear that something occurred in the recent past that sparked a long period of economic decline, beginning in 1973. Moreover, this “something” must have never happened before, because it is the first time in history that Americans have suffered such a long slide with no end in sight.

So here’s the puzzle. What is this “something” that is a totally new phenomenon in American annals? Since the two-decade decline is unique in history, its cause must also be unique. The theories offered by economists and pundits to explain the erosion must pass this test of uniqueness; otherwise, these explanations are self-serving, misleading, or incomplete.

Traditional Explanations

Let us briefly examine the reasons often cited for the declining living standard. You may rest assured that in the next chapter I will offer you decisive proof of this decline. Let’s take for granted for the moment that at least half, and as much as 80 percent, of the population today is worse off than in 1973.

It is now commonplace to compare the United States with Germany and Japan. Even those doubtful of U.S. decline acknowledge that these nations, which were in a shambles in the aftermath of the Second World War, have caught up with the United States and may even have surpassed it in some areas.

Germany and Japan have become highly competitive in world markets, and many are afraid that the United States has either lost its once formidable competitive edge or is about to lose it forever. Others like to use a military metaphor. “We may have won the Gulf War and the cold war,” they say, “but we are badly losing the war of competitiveness.”

This feeling is pervasive in America today. It spreads across the ideological spectrum. Americans of all persuasions—Democrats and Republicans, whites, African Americans, and ethnic minorities—are alarmed about the growing industrial might, especially of Japan, which over the last decade has had a huge surplus in its trade with the United States.

The reason America has lost its competitive edge is said to be the slow growth of productivity in its economy. Both Germany and Japan enjoyed astounding growth in national output per hour during the 1960s, 1970s, and 1980s, as displayed in Figure 1.1.

As Steven Greenhouse writes, “Overall, the United States still leads in productivity, but its rate of productivity growth continues to lag competitors’.”⁶ Using 1960 as the base year, Figure 1.1 shows that the gross domestic product (GDP) per employee rose from 100 to about 155 in the United States, whereas in Germany it rose to more than 240 and in Japan to over 460. In other words, in thirty years, productivity grew by 55 percent in America, 140 percent in Germany, and a staggering 360 percent in Japan. Other measures of productivity, such as the output per hour in the business sector, are somewhat more favorable to the United States. But even there productivity grew by no more than 70 percent.

Before reacting to these shocking numbers, you must remember that both Germany and Japan were devastated by the war and were starting from a very low base. They are also in a slump at this time. In spite of these caveats, both countries have undoubtedly enjoyed astonishing gains. Britain, France, and Italy, other parties to the war, have, like the United States, been laggards in the productivity race.

What are the reasons behind the U.S. productivity slide? Not only has the nation lagged behind Germany and Japan, its productivity growth during the 1980s was just a third of its own rate during the 1960s. And for some years in the 1970s, the growth was actually negative. Some of the reasons commonly cited for the productivity debacle are as follows:⁷

1. The rate of saving is abysmally low in the United States, at less than 5 percent of disposable income, as opposed to over 14 percent in both Germany and Japan.
2. Since savings are the backbone of investment, the rate of investment is also much lower in America than in other nations.
3. Since investment is the backbone of productivity, the productivity gain in the United States is much smaller than in Germany and Japan.
4. For a long time U.S. wages were higher than German or Japanese wages. This gave an additional cost advantage to America’s competitors. (However, this is no longer true. German wages were $20 per hour in 1992, whereas in both the United States and Japan, wages approximated $15 per hour).
5. American education has suffered a long-term decline; U.S. workers are not being trained to handle increasingly sophisticated technologies and equipment.
6. Some have argued that the United States had a great baby boom following the war; those babies came of age during the 1970s and 1980s, and while the economy was able to provide them jobs, their lower skills and education caused productivity growth to slacken.
7. Huge federal deficits and debt kept the interest rates higher in the United States than in Germany and Japan. As a result, American companies were at a disadvantage in borrowing for investment vis-à-vis their competitors.
8. In the 1980s, while Germany and Japan were busy investing in their future, American companies were frantically buying up other companies; consequently, corporate debt in the United States soared, while corporate spending on research and development plummeted.
9. The standard of living has been declining since 1973, the year when the Organization of Petroleum Exporting Countries (OPEC) quadrupled the price of oil. This price soared again in 1979 after the revolution in Iran. In order to pay for high energy costs, firms all over the world had to cut back on investment; but since the low-taxed American oil was much cheaper than in other nations, U.S. companies suffered far more than their competitors, which were already used to the higher energy burden.
10. Finally, the deindustrialization of America, in the face of cheap imports from abroad, has caused a sharp drop in productivity growth as more and more Americans have had to seek jobs in service industries, which have much lower productivity than manufacturing.⁸

Incomplete Answers

The ten reasons presented above are commonly cited to explain the American productivity slide of the 1970s and 1980s. Do they explain the longest decline in U.S. prosperity? Do they pass the uniqueness test that I proposed above. The answer is no. At best, they offer incomplete explanations; at worst, they are incorrect and misleading. However, they are not self-serving explanations such as American taxes are too high or capital gains are overly taxed. U.S. tax rates are much lower than those in competing nations.

At the risk of repetition, let me state this again: the slide in the living standard since 1973 has been the longest in three centuries of U.S. history. It is therefore a unique phenomenon that calls for a unique explanation.

Among the ten reasons offered above, there are only two that stand the test of uniqueness. Our giant peacetime federal deficit is one, the deindustrialization of America the other. Yet they are both partial answers. First, the federal debt and deficit began to soar only after 1980, whereas the slide in prosperity began in 1973. The deindustrialization process began even before 1970, as the proportion of the labor force employed in manufacturing began a long-term decline. But the authors of the deindustrialization hypothesis failed to look at its root cause.

Deindustrialization is indeed new in the U.S. chronicle, but what is its true cause? Volumes have been written on this hypothesis, but hardly anyone has discovered the culprit.

Before I name the culprit, let me examine the rest of the conventional explanations for the productivity slide. The low savings rate in the United States is as much an effect as a cause. When a person faces downward mobility, as most Americans did after 1973, savings fall faster than incomes. Once acclimated to a high standard of living, people try to maintain their lifestyle even with an income slide either by borrowing or by consuming their past savings.

Second, the U.S. rate of investment, as measured by the investment/GNP ratio, has been steady since the 1950s. It even crept upward during the 1980s. Why, then, didn’t the productivity slide begin in the 1950s? Why did it wait until the 1970s?

Third, American wages have been higher than wages in other nations for much of U.S. history. Why have they become a significant factor now?

About U.S. education; it is well known that the United States is a nation of immigrants. Time and again the country has been hit by waves of immigrants who were often illiterate and unskilled. But the nation was able to train them and convert them into skilled workers. The educational problem is not a new factor.

About the baby boom; the United States has experienced far greater baby booms before in its history. Again, nothing new.

About the 1980s merg...

Table of contents

• Cover Page
• Title Page
• Dedication
• Copyright Page
• CONTENTS
• ACKNOWLEDGMENTS
• Introduction: America at a Crossroads
• 1 In Search of a Culprit
• 2 The Shattered Dream
• 3 Free Trade The Real Culprit
• 4 Roots of the Free Trade Fiasco
• 5 Productivity Growth IsThere Really a SeriousProblem
• 6 Global Experience with Free Trade
• 7 America’s Experience with Tariffs
• 8 The Fallacy of FreeTrade
• 9 CompetitiveProtectionism
• 10 A Five Year Plan forEconomic Revival
• 11 International Tradeand the Environment
• 12 A Proper Theory ofEconomic Developmentand Trade
• NOTES
• INDEX