The nature of trade has changed — US trade policy must change too

There is a good reason why trade is a sticking point as Congress considers the America Competes Act. Trade in today’s world no longer works the way it once did, but many are still being taught trade examples from an older world. They learn that if England is good at raising sheep and making their wool into cloth, and Portugal is as good at growing grapes and making their juice into wine, then, if they trade wine for cloth, they both come out ahead.   

David Ricardo, who discussed this example in his famous book, understood very well what he was writing about. Ricardo originated the theory of comparative advantage and made a fortune in finance. We still use his economic reasoning today. But Ricardo was living in a different world. In Ricardo’s world of 1820, it was hard for countries to change what nature and history had given them. It would have been both difficult and unproductive for England to get into making wine and for Portugal to get into making cloth.

But today’s world is different. In today’s world, an advantage in making something can often be acquired rather than be a gift of nature. The ability to make semiconductors, for example, is knowledge and skill that can be learned by any developed country anywhere.

Trade is no longer about trading what you are naturally good at producing. It is about finding ways to make your country the major provider of the most productive industries. And there are many actions, some of them not very pretty, that countries use to get that result.

China is a good example. For decades China has used currency manipulation, subsidies to Chinese producers in key industries, limited market access and many other tactics to advance its home industries. It also subsidizes U.S. companies that China selects to produce in China. These companies can then sell products back into the U.S. at prices that undermine our unsubsidized providers.

For decades, U.S. political leaders have accepted these actions. They have acted on the belief that increased trade between two countries will ultimately benefit the overall economies of both. But in today’s complex world of global corporations and government supported industries, international trade is not always that benign. In today’s world, trade can help countries, but trade can also harm them.

This new reality, with its possibility of harm as well as gains from trade, has not gone unrecognized. In 2000 the influential economist William Baumol and I published our MIT Press book “Global Trade and Conflicting National Interests,” which carefully described the new trade situation. Another important discussion of this new world of trade was a 2005 article by the Nobel Prize-winning economist Paul Samuelson. Samuelson not only gave examples of both positive and damaging outcomes from trade but also strongly suggested to his fellow economists that it was time for them to realize that the world has changed.

In the complex world we live in now, many things can happen. Here is one important situation: Suppose a developed country A is trading with an undeveloped country B that is developing. Our analysis shows that B’s development is at first good for both A and B but after a certain point turns bad for A as the formerly undeveloped country B becomes a more effective competitor. That situation accurately describes our recent history with China.  

We should congratulate Congress for realizing that there is a problem and for taking a significant step toward addressing it by trying to pass the America Competes Act. But in our modern world, there are so many different and constantly changing actions countries can take in international trade that we cannot respond adequately by congressional action alone.

Fortunately, there are many effective steps our country cantake to respond. Here are a few. We can use tariffs to shelter key industries from subsidized foreign competition. We can use internal tax policies, such as the research and development (R&D) tax credit, that encourage investment at home. We can even use U.S. government intervention to strengthen a vital industry, as we did successfully with Sematech in 1988, when a government-industry coalition turned around our semiconductor industry, which was steadily losing out to Japan.

We also formed NASA in 1958, when there was widespread concern about our ability to compete with the Russians in space. Today, as I wrote recently in The Hill, we could also consider an ongoing government agency to help us not only to lead in science but also to capture more of its industrial benefits.

Although there is much we can do, it will not be easy to change away from the old benign belief about trade. Any change in what we do will naturally be opposed by those who benefit from the present situation. Many of our largest corporations are strongly dependent on subsidized factories in China to make their products cheaply and enhance shareholder profits. Quite naturally, they and their political influence will oppose moving away from what we do now.

Change will not come easily, but it is necessary. We should urge our government to move ahead now with the actions that will create an economy that we can rely on to give us the critical goods we need, and to increase the strength and prosperity of our country.

Ralph Gomory is well-known for his mathematical research and his technical leadership. He has been awarded the National Medal of Science. For 20 years he was responsible for IBM’s research division, and then for 18 years was the president of the Alfred P. Sloan Foundation. He is currently a research professor at New York University.