A rough guide to trade war

Donald Trump has taken aim at the idea of free trade, and fired the opening shots in what could be a global trade war

How old is the idea of free trade?

Not old at all. Until relatively recently, much of the world was in a continuous state of trade war. From the 16th century until the early 19th century, mercantilism was dominant in Europe. Mercantilist thinkers posited, roughly, that military power came from wealth, and that wealth could be accumulated by minimising imports and maximising exports, particularly of manufactured goods. To this end, most countries imposed high tariffs on foreign imports. It was a zerosum view of the world: rival powers all tried to accumulate trade surpluses at once. It led to both real war and colonial expansion, as nations vied to control natural resources and captive markets for manufactured goods.

And how did that situation change?

The discipline of economics was invented essentially to challenge mercantilism. Adam Smith argued that nations got rich not by trying to accumulate surpluses, but by gains in productivity – which result from the division of labour, new technology and economies of scale. By allowing free trade, nations make citizens shift resources towards industries in which they have an advantage: crudely, Britain should produce its own wool, and buy France’s wine. After years of debate, in 1846 MPS repealed the Corn Laws – which, at the behest of landlords, had imposed steep duties on grain imports – initiating the first era of free trade.

Has free trade made the world richer?

Yes, massively. In the past two hundred years, there has been at least a 800% increase in average income. Much of this is down to free trade: different nations giving up the attempt to be selfsufficient, buying from others what they need and specialising in what they do best. Economists have often been accused of failing to reach clear conclusions, but they very consistently assert that free trade is almost always good for any economy – as a whole. It can, though, be very bad for owners and workers that lose out to global competition. Hence, as Thomas Babington Macaulay put it: “Free trade, one of the greatest blessings which a government can confer on a people, is in almost every country unpopular.”

Why is it so unpopular?

It is counter-intuitive. In the words of Abraham Lincoln: “I don’t know much about the tariff, but I do know if I buy a coat in America, I have a coat and America has the money – if I buy a coat in England, I have the coat and England has the money.” In rich countries, people fear being undercut by cheaper foreign workers. In poor countries, they fear being out-competed by better technology. Free trade also offers “dispersed gains” and “concentrated losses”. Letting in more cheap Chinese steel to the UK, for instance, would make many groups, from carmakers to consumers, better off. But a small number of steel workers would lose their jobs. Threatened producers and workers tend to be well organised and good at exerting political pressure.

So how did free trade advance?

Broadly, free trade has been pushed by dominant manufacturing powers that thought they could benefit from it: first Britain, then the US. (Hence Karl Marx called it “naked, shameless, direct, brutal exploitation”.) The first era of free trade came to an end when, after the shock of the 1929 crash, US farmers and industry demanded protection. The US, always a reluctant free-trader, passed the Smoot-hawley Tariff Act in 1930, pushing the average tariffs on goods from roughly 25% to about 50%. Other countries retaliated and world trade crumbled. Economists disagree over the exact damage done, but between 1929 and 1933, US exports crashed from $5.2bn to $1.7bn, and most think this deepened the Depression.

And when did progress resume?

In 1947, the US and its allies established the General Agreement on Tariffs and Trade (Gatt), instituting quotas and other barriers to trade in a series of elaborate horse-trading negotiations (“rounds”), during which nations mutually dropped tariffs. Gatt and its successor, the World Trade Organisation (WTO), have succeeded in bringing tariffs down across most of the world – essentially ushering in true globalisation. In addition, most developed nations belong to regional free-trade areas, such as the EU, Nafta in North America and Mercosur in South America.

How free is world trade today?

Not that free. The WTO system allows national governments to suspend normal rules so as to protect their economies in certain cases: market disruption (a sudden surge of imports), national security (a rationale shamelessly exploited by Donald Trump), unfair practices (where other nations’ exports are subsidised) and dumping (where firms export goods below cost to drive foreign competitors out of business). Agriculture remains subsidised and protected in much of the world, to preserve farming communities. Generally, there are so many ways of affecting free trade that lowlevel trade wars are constantly erupting.

Are Trump’s grievances fair?

Yes and no. Some argue that the whole “free trade” system is biased against America. Certainly, China uses a whole range of techniques to keep its markets closed and its exports cheap. And WTO figures suggest that average US tariffs are 2.4%, lower than the EU (3%) and Canada (3.1%). But tariffs are only one part of the free-trade system. Taking into account non-tariff barriers such as safety regulations and other bureaucratic hurdles, the World Economic Forum found in 2016 that the US was only the world’s 22nd most open economy (Singapore was first; Britain and Germany were eighth and ninth). In a sense, though, Trump’s position (see box) is nothing new. Washington, like most governments, supports free trade as long as it clearly benefits. When threatened, it tends to retreat into protectionism.