Undercover Economist

Trump, trade and ‘the China shock’

‘Freer trade has inflicted a more grievous toll than economists, myself included, had expected’

It hasn’t escaped the notice of pundits that the political iconoclasts Bernie Sanders and Donald Trump have something in common: they’re sceptical about trade. Trump, for example, has riffed expansively: “We don’t win any more. We don’t beat China in trade. We don’t beat Japan . . . We can’t beat Mexico, at the border or in trade.” Sanders expressed his concerns with a little more precision: “While bad trade agreements are not the only reason why manufacturing jobs in the US have declined, they are an important factor.”

Both men have vastly outperformed expectations in the primary campaigns. There are many reasons for that but perhaps the simplest explanation is that freer trade has inflicted a more grievous toll than economists, myself included, had expected.

Fifteen years ago, the conventional economic wisdom was that free trade was almost unambiguously a good idea. Here’s the basic logic. There are two ways for the British to get hold of wine. We can grow and press our own grapes, or we can make something that the French want and trade with them. If we’re good at making, say, computer games and the French are good at making wine, then trading is the better way to get what we want.

The idea that we might, Trumpishly, “beat the French in trade” sounds appealing but is incoherent. And while a British Sanders might point to the loss of jobs in the UK wine industry, that would miss the gains in the software industry. There is little economic difference between a tariff on the import of French wine and a tariff on the export of British software.

Here’s a parable beloved of economists. An entrepreneur announces a technological breakthrough: he has a machine that can disintegrate computer game discs and reconstitute the atoms into fine wine. He sets up a factory on the coast of Kent with the machine inside. Computer games go in, and cases of wine emerge. But then an investigative reporter from the Financial Times gains access to the factory and finds that there is no machine — just a dock where a forklift truck operator busily unloads French wine from a boat, replacing it with computer games for export to the French market. Should we care? From the point of view of the British, isn’t France merely a technology for converting computer games into wine?

With formal models to back up this sort of story, most economists took the view that when countries lower their trade barriers, even unilaterally, they prosper. What the British wine industry loses, the UK computer games industry gains. Meanwhile, consumers get better and cheaper wine into the bargain.

It was always clear that, despite the win-win nature of trade at the national level, freer trade could create losers — such as British vineyards and French computer game studios. But the conventional wisdom was that these losses were both small and fixable with the right policies of retraining or redistribution. Most importantly, people who lost their jobs could find new ones in booming export industries.

Admittedly, it was evident even 20 years ago that median household incomes were stagnating in the US, inequality was rising in anglophone countries, and manufacturing employment was steadily falling. But these trends seemed to owe more to technological change than to globalisation.

I’ve been phrasing all this “conventional wisdom” in the past tense but, for the most part, it stands up. However, it is acquiring an important and depressing footnote. A new research paper, “The China Shock”, from David Autor, David Dorn and Gordon Hanson, is part of a rethink under way in the economics profession.

Autor and his colleagues try to zoom in on the impact of China’s emergence as a trading power. China’s rise has been dramatic, driven almost entirely by internal policy changes inside China, and has had a differential effect on different regions and industries. For example, Tennessee and Alabama are both US manufacturing centres exposed to global competition. But Tennessee’s furniture manufacturing industry is much more exposed to China in particular than is Alabama’s heavier manufacturing industries. This helps the researchers to figure out with more confidence what the impact of the China shock has been.

Autor, Dorn and Hanson conclude that the American workers who have been hurt by competition with China have been hurt more deeply, and for a longer period, than many economists predicted. Employment has fallen in industries exposed to trade competition, as expected. But it has not shown much signs of rising in export-oriented sectors.

The US labour market is less flexible than we thought, it seems. In a simplified economic model, workers move smoothly to a new home, a new industry, even a new level of education. In practice, Autor and his colleagues find that communities hit by Chinese competition often do not adapt; they wither. It may take a generation or two, rather than a few years, to adjust.

In the long run, of course, that adjustment will happen — just as we have adjusted to the decline of agricultural labour or the need for typewriter repairs. But the long run is longer than many economists feared. It is easy to see why supporters of Trump and Sanders have run out of patience.

Written for and first published at ft.com.

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