Does economic history hold a giant clue for getting America out of its present trade mess? Yes, because it debunks the idea that free trade is how nations become prosperous. Instead, it shows that nations win at international trade by playing a 400-year-old game called mercantilism.
Let's look at England, for example.
The great Adam Smith, founder of modern economics, published his epoch-making free-trade tract The Wealth of Nations, the origin of endless subsequent delusions, in 1776. But he was a hypocrite, for Britain in 1776 was not a blank slate upon which free markets and free trade could work their magic. It was instead the beneficiary of several prior centuries of protectionism and industrial policy. In the words of British economist William Cunningham:
For a period of two hundred years [c. 1600-1800], the English nation knew very clearly what it wanted. Under all changes of dynasty and circumstances the object of building up national power was kept in view; and economics, though not yet admitted to the circle of the sciences, proved an excellent servant, and gave admirable suggestions as to the manner in which this aim might be accomplished.
England in this era was, in fact, a classic authoritarian (this is long before English democracy) developmentalist state: a Renaissance South Korea, with kings rather than the military dictators who ruled South Korea for most of the Cold War period. English industrialization must actually be traced 300 years prior to Adam Smith, to events like Henry VII's imposition of a tariff on woolen goods in 1489. King Henry's aim was to wrest the wool weaving trade, then the most technologically advanced major industry in Europe, away from Flanders (the Dutch half of present-day Belgium), where it had been thriving upon exports of English wool. Flemish producers were entrenched behind huge capital investments, which gave them economies of scale sufficient to outcompete fledgling entrants into the industry. So only government action could get England a toehold.
Even in the 15th century, there was an awareness that being an exporter of agricultural raw materials was a dead end--a problem impoverished African and Latin American nations wrestle with to this day. And there was an awareness that free trade will not lift a nation out of this predicament: you need some well-chosen protectionism. Henry VII created, in fact, the first national industrial policy of the modern era, long before the Industrial Revolution introduced artificial energy sources like steam power. A whole interlocking series of now-forgotten policy moves underlay the rise of English industry; what all these measures had in common was that protectionism was essential to making them work. In the words of economist John Culbertson of the University of Wisconsin and the Federal Reserve Board of Governors:
Step after step in the cumulative economic rise of England was directly caused by government action or depended upon supportive government action: the prohibition of importation of Spanish wool by Henry I, the revision of land-tenure arrangements to permit the development of large-scale sheep raising, Edward III's attracting of Flemish weavers to England and then prohibiting of the wearing of foreign cloth, the termination of the privileges in London of the Hanseatic League under Edward VI, the near-war between England under Elizabeth I and the Hanseatic League, which supported the rise of English shipping. And then there was the prohibition of export of English wool (which damaged the Flemish textile industry and stimulated that of England), the encouragement of production of dyed and finished cloth in England, the use of England's dominance in textile manufacture to push the Hanseatic League out of foreign markets for other products...
The aim of English policy was what would today be called "climbing the value chain": deliberately leveraging existing economic activity to break into more-sophisticated related activities. Henry VII's advisors got their economic ideas ultimately from the city-states of Renaissance Italy, where economics had been born as a component of Civic Humanism, their now-forgotten governing ideology.
The name for this forgotten developmentalist wisdom of early modern Europe that has stuck is "mercantilism." One of the great myths of contemporary economics is that mercantilism was an analytically vacuous bundle of gold-hoarding prejudices. It was, in fact, a remarkably sophisticated attempt, given the limited conceptual apparatus of the time, to advance national economic development by means that would be familiar and congenial to the technocrats of 21st-century Tokyo, Beijing, or Seoul. (And believe me, they're still using these techniques against us.) For 400 years, this is how former Third-World nations have become former Third World nations.
Mercantilists invented many economic concepts still in use today, such as the balance of payments, value added, and the embodied labor content of imports and exports. They championed the economic interests of the nation as a whole at a time when special interests (notably royal monopolies) were an even bigger problem than today. They began with obvious ideas like taxing foreign luxury goods. They progressed to the idea that exporting raw materials for foreigners to process was bad if the nation could process them itself. They understood that nations rose economically by imitating the industries of already rich nations (first the more primitive industries, then the more sophisticated) and that low relative wages were the key advantage of underdeveloped nations in this game. How little has changed!
Mercantilists saw free markets as a useful tool in economics, but not the sum total of economic wisdom. Even their much-mocked obsession with the accumulation of bullion was not as irrational as it is usually depicted as being, given that under a monetary system based on gold, accumulating it is the only way to expand the money supply and drive down interest rates, a boon to investment then as now. Mercantilism, in fact, created the modern European economy and thus made possible the colonial power that economically shaped much of the rest of the world. It is thus the foundation of modern capitalism itself.
Anyhow: Britain functioned on a mercantilist basis for centuries before its much misunderstood experiment with free trade began. Even as late as the beginning of the 19th century, Britain's average tariff on manufactured goods was roughly 50 percent--the highest of any major nation in Europe. And even after Britain embraced free trade in most goods, it continued to tightly regulate trade in strategic capital goods, such as the machinery for the mass production of textiles, in order to forestall its rivals. This was rational, as the win-win logic of free trade starts to break down if productive capital is mobile between nations or if free trade induces productivity growth abroad.
After Britain embraced free trade in the mid-19th century, its long economic decline, of course, began. Today, the United States is making the same mistake, having mistaken the temporary tactical advantages of free trade for a nation at the peak of its economic power for a fundamental strategic truth. Meanwhile, our rivals, especially but not only in the Far East, hold firm to the mercantilist principles that we ourselves employed for 150 years.
Mercantilism has somewhat different application in developed, rather than developing, nations, but its fundamentals still hold good. At the very least, we need to defend ourselves against mercantilist aggression against us, something we are not doing.
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What mercantilism boiled down to – at least in France (a.k.a. Colbertism) – was providing extra fiscal resources to the king and most of the gold collected that way ultimately served as a mean to fund wars or the personal wealth of Richelieu, Mazarin and Colbert..
At the time of mercantilism, the Frenchmen were (literally) starving. Mr Fletcher should read Tocqueville’s The Old Regime and the Revolution or René Louis d’Argenson’s Mémoires to have a better picture of the kind of well-being this kind of policies brought to France during the XVIIth and XVIIIth centuries. They basically paved the way for a revolution..
Mr. Fletcher should also take this opportunity to gain insight on the kind economic well-being brought by internal trade tariffs of that time –famines for the people, taxes for the lords.
Taxes – and especially “la taille” – where indeed one of the chief reason why people felt so bad about the way they were ruled and the agricultural crisis (triggered by low productivity and internal trade tariffs) lasted for more than a century (e.g. not just the 1780s). But both where just part of the issues the French economy was suffering..
Colbert’s mercantilist policies, through enforcing standardization and setting state monopolies, almost destroyed the French industry while export subsidies and public spending increase the tax burden on the people..
Colbert explicitly defined the greatness of the kingdom by the wealth of the king – that was the objective of mercantilism.
Food shortage that bankrupt Farmers then destabilize Governments from the Bottom up as Free Trade allows in cheap and often Free Grain collapsing the markets for the rest of the Farmers.
Actually, once you start talking about food shortages, etc. You are really looking at terrible government polices meant to protect agriculture. We have learned to be very efficient at agriculture and can produce more than we need. The government pays farmers not to grow things, or to destroy crops or they use tariffs and subsidies and other programs to distort free trade in cheap food.
Moreover, it is important to note that industrialists manufactured automated harvesters, in the 1920’s onward, and revolutionized agriculture. These technological advances killed off thousands of jobs and the industrialist built lots of factories and made a lot of money. Yes, these manufacturers are evil job killers….but wait…now robotics and international trade is coming along is destroying jobs at the American manufacturing plants…Karma.
This good karma of penalizing the industrialist for killing agriculture is done by the capitalist who is forcing these industries to become more efficient or bankrolling cheaper factories overseas.
The capitalist is your hero…he/she has forced a day of reckoning on industrialists for their wonton destruction of 19-century inefficient farming. OMG…the capitalist is doing the Lord’s work and punishing these evil industrialist and their greedy union employees.
Low-skill, Low-technology, Single-Plot, Sharecroppers and Farmers rejoice!!! Your day of making a meager living has returned.
Make sure you write them a thank you note.
Kai
Turgot, having witnessed the results of such policies, understood how much mercantilism was completely inconsistent more than two centuries ago.
http://mars.wnec.edu/~grempel/courses/wc2/lectures/mercantilism.html
"While most closely associated with 18th century Europe, the term mercantilism has also been used to refer to the general principle of the aggrandizement of state power for the economic gain of its capitalist class by manipulating and controlling trade. During colonial times, for example, this took the form of military control over trade routes, large tariffs on imported goods (especially manufactured products), and outright plundering of colonies in pursuit of gold and raw materials": Mercantilism http://www.referenceforbusiness.com/encyclopedia/Man-Mix/Mercantilism.html#ixzz1FHguC966
The numbers on mercantilism are quite clear. Real wages in 1700's England were slightly lower than they had been in the 1500's. Whereas wage growth betwen 1755 and 1851 was +154% in real pounds. I use real terms because one of the main ways that mercantilists try to create illusory growth is through inflation.
Mercantilism/Socialism/Protectionism always harms the ignorant masses while helping the few in the government or specific industry. The consumer is the one who is most hurt by the lack of competition and that harm is typically much larger than the benefits to the given industry.
The whole notion of mercantilism is dependant on economics being a zero sum game, when we know that it is a positive sum game. The growth that we have experienced in the past two hundred years more than proves that.
Unfortunately America has transitioned from an empire of manufacture to an empire of consumerism.
Yet we could still go across America and the world building roads, rail, bridges, dams, nuclear power plants and other alternative energy sources; hospitals, centers of learning, etc. These are some of the things China and other western countries are engaged-in.
This would be the true manufacturing and service related industries that should have engaged us; instead of phony financial dealings like derivatives, creative financings or ENRON-like schemes.
These corporate entities exploited the natives by having a MONOPOLY of their two-way trade; on terms dictated by the colonialist. If natives did not cooperate, they were literally disposed off with the local puppett ruler paid-off, displaced (by a cooperative relative) or beheaded.
If that didn't work, the entire village and some cases the island (as in Indonesian spice islands) was burnt and local population starved. Then either new natives were brought-in or colonialists ran the plantation using African slaves.
Please save us (21st century students of colonialism) from the fancy economic theories on colonial mercantalism which gave Europe (16-20 centruy) its wealth; and sanitizes if not glorifies the economic successeses of colonialism.
In fact much of illegal immigration (of farm labor) from Mexico and the current upheavels in Mid East is related to their local agricultural production and food prices. And this is directly connected to agricultural subsidies in the US.
Now we - American taxpayers spend billions for:
1. Agricultural price-supports.
2. Prop-up large agri-businesses.
3. Maintain higher food prices in America.
4. Support the Mexican economy.
5. Stabilize the dozen or so countries in the Mid-East.
All of this to "defend ourselves against mercantilist aggression against us".
Now that President has gotten into his WH, individuals with ties to industry that can create jobs and stimulate job production, the same lefties are crying foul.
For two years President satisfied the left with stimulating the economy with 2 Trillion Tax payers money. Job losses were stemmed; but few new jobs were created. WH alienated the independents and moderate Republicans and Democrats voters; as reflected in the mid-term elections with 125 new Republicans voted to Congress.
Country is tired of Federal Debt (15.5 Trillion) and annual budget deficits (1.6 Trillion latest budget). The left, not with-standing their economic theories have to realize this. There is a limit to spending. Budget deficits have to be reduced. So say the people!
Ironically some supporters of defense spending, (even when Pentagon desires to cut programs), are PROGRESSIVE / DEMOCRATIC representatives, senators and governors. This specially applies to industrial states like Ohio, Massachusetts and others.
Tea Party have to be complimented for being laser-focused on eliminating debt and deficit with PAYGO (pay-as-you-go).
Its the elected representatives (both parties) and people (voters) of the states where the defense production plants are located. So all of us 'want to have our cake and eat it too' and we don't "walk the talk". Scapegoating others has become national pastime.
That said, it seems many commentators don't know the difference between free trade and collusion between the government and business. Strange since the two cannot coexist.
... and yet, by the 1770s (At the least, we know this was true by 1776- see Alice Hanson Jones "Wealth of a Nation to Be"), the colonies had higher GDP (on a per capita basis) then the motherland, and indeed higher GDP/capita than basically every other European nation.
If England was trying to use their enlightened mercantilist policies to "capture growth" from the colonies, they sure did a piss-poor job of it.
I am not sure where or how the enlightenment come-in?
What this nation needs most of all are clear-headed patriots to our Constitution who realize their limitations and are wanting and willing to study and learn as they develop policies to national reconstruction and renewal.
In a changing world learned leaders direct a nation towards stagnation and decline. Their learning was anachronistic and stilborn before it was learned.
*Hume = one of the people who got the UK off merchantilism and on to free trade.
Aggressive mercantelism such as China presents is the cause of wars that slaughter humanity. We live in ominious times.
His conclusions: mercantilsm did not make the country richer because the gold that flowed in would lead to inflation (gold supply increase = gold less valuable) which would lead to an outflow of gold and back to square 1 with no real benefit to the economy.
Are we now able to get around the problem by sterilizing the money overseas?
Is this politically acceptable in the US?
capitalism communism and socialism are cause a nation to self destruct to third world status if left to do their thing.
england had its ride then we had our ride now it is another's turn in the barrel of wealth and power to learn how it leads to the ignorance of greed and the national arrogance of nation building.
at least it did not take we americans 600 years like rome or 200 hundred like england, we managed to do it is 60 years. some things we do better. if you are unable to see this ignorance and arrogance in most americans then you are part of it, which of course most americans are of course.
I only wish you would address the beggar thee neighbour and beggar thee worker aspects of mercantilism. Taken together they should condemn the policy to dustbin of history. However I must agree that defending against it is a must.
The downfall of merchantilist practice, as the Chinese are learning all to well, is that as you export your wealth to the world, you import the world's little pieces of paper. Those pieces of paper, when not used to fund a growing domestic economy, or to buy impoorts (egads!) have a nasty habit of piling up in one's economy, causing rampant, sustained inflation. that's why merchantilism faded awy in the westt over 200 years ago.
But hey, let's assume the author is correct, and a horrendous mistake was made when Mr Smith swayed an ignorant west in 1776 to the advantages of this seriously flawed folly of free-markets.
How does one explain the almost hockey stick like explosion of world-wide prosperity over the next 240 years, when compared with mankinds properity to that point?
More importantly, why wasn't this explosion of prosperity experienced under merchantilism?
But why believe me? China's stated inflation rate is 5%; those who do not trust official Chinese gov't statistics estimate it to be as high as 20%. Ask youself this, if I'm wrong, why do the Chinese find the need to "sterilize" those massive inflows of US dollars out of their economy?