Trading on Thin Ice

It is amazing to see the charged responses to the idea of a made-in-Canada policy for procurement related to infrastructure stimulus spending. Perhaps it is just that all economists are supposed to accept free trade as the One True Policy. But what I am seeing are largely moral arguments for free trade in the abstract rather than an examination of a particular policy proposal in light of current events. So let’s put aside our inner Ricardos and drop the knee-jerk defense of free trade.

In James Galbraith’s new book, The Predator State, one interesting point he makes is around Adam Smith’s “invisible hand”, now widely taken as THE metaphor of free markets and trade. The full quotation, however is actually a guide against free trade between England and France:

“By preferring the support of domestic to that of foreign industry [every individual] intends only his own security; and by directing that industry in such a manner as its produce may be of the greatest value, he intends only his own gain, and he is in this, as in many other cases, led by an invisible hand to promote an end which was no part of his intention…. By pursuing his own interest he frequently promotes that of the society more effectually than when he really intends to promote it.” [I grabbed this quote here]

The reality of the development of advanced countries is that all of them have used some forms of active industrial policies, including preferential procurement; none has gotten rich by blithely pursuing free trade (one exception might be Hong Kong but it has some unique circumstances). Even economic theory suggests that free trade is not always a win-win for everyone, all the time (Krugman’s Nobel prize speaks directly to these sort of dynamics).

Don’t get me wrong. I generally support open trade and there are many large industrial sectors where the economies of scale are such that trade is a necessity for an efficient level of production. But there are democratic limits, too. Countries need to be able to carve out certain sectors from trade (most public services), regulate consistent with their own circumstances (environmental protection, labour standards, etc) and engage in industrial policies. The latter is even more important given the trend for Canada to revert back to its traditional role of resource exporter to the rest of the world, most of whom are more pragmatic and have developed strategies to take leading positions in high value added industries.

The only valid argument in all this is that protectionist measures beget protectionist measures and thus set of a cascading trade barriers. But let’s keep perspective on what is being proposed and its total magnitude. Furthermore, what is being proposed is legal under existing trade rules.