US Deficits in Goods Trade

Trade and protectionism are hot topics. At the root of the discussion is what has happened to the US as a trading partner. There is much to this debate and I won’t handle it all here today. Instead I focus on something that I think is central to the issue – the performance of US trade in goods.

International trade goes well beyond trade in goods. But as it turns out, a key part of what we consider to be problematic for the US is trade in goods. We trade services (like entertainment, transportation, shipping, and tourism) and we engage in a lot of international exchange with respect to financial and real assets (bonds, stocks, bank accounts) but we generally run surpluses in those trades. If we have a large and persistent trade deficit, it is mainly with respect to goods.

So I am back to playing with the data again this week. With trade figures there are choices to make. Much of what we refer to as trade is measured and captured in our balance of payments (BOP) account. There we find the Current Account and the Financial & Capital Accounts that contain information about exports, imports, and so on. These figures are always presented in nominal terms and thus measure changes in both quantity and price. Export and imports of goods and services are also published in our National Income Accounts (NIA) and those measures of trade are very compatible with the way Gross Domestic Product (GDP) is measured. The NIA accounts are presented in both real and nominal terms.

Yikes – too much information. Anyway, I decided to use the NIA measures since they are compatible with the way GDP is measured. I am using the nominal versions because they are somewhat more compatible with the BOP figures. I did a quick comparison of the real and nominal NIA measures and it didn’t change my overall conclusions. Whew. Where’s that JD?

The table at the bottom shows nominal NIA measures of US exports and imports of goods starting in 1964, the year I began studying Industrial Management at Georgia Tech and was introduced to chili dogs at the V in Atlanta. I present data for five years that are separated by 13 year-intervals because 13 is my favorite number (1964, 1977, 1990, 2003, and 2016). These 5 years bracket 1990 which is a demarcation point for the rise of globalization. This allows me to compare 26 pre-globalization years to 26 post-globalization years. Is this fun or what?

The top of the table presents US imports and exports in billions of dollars. Nominal GDP, also in the table, went from about $6 trillion in 1990 to almost $19 trillion in 2016. Some of that increase is because of price increases – with the rest from quantities. But GDP is not the point today – though it gives you a benchmark as to how much the size of the overall economy changed over those 52 years. Goods exports went from $403 billion in 1990 to almost $1.5 trillion in 2016. Imports increased too – from $508 billion to about $2.2 trillion. The net imports (imports minus exports) was $105 billion in 1990 and increased to $778 billion in 2016.

If I stopped right now many of you would have an aha moment. What you would see is the following post-globalization experience: US imports of goods outran our exports of goods and the trade deficit in goods increased dramatically. There are no smoke or mirrors here. This is the kind of information that supports the popular idea that globalization has not been good for the US and that there might be unfairness working against us – be it so-called free trade agreements or cheating or whatever.

But let’s not stop there. In the second part of the chart we display trade in goods as a percent of GDP. In 1964 goods exports were 3.9% of GDP. By 2016 goods exports accounted for twice the share of the economy at 7.8%. But notice that the pre-globalization gain of 2.8 percentage points (from 3.9% to 6.7% of GDP) compared to the 1.1 percentage point gain in the post-globalization years. That is, exports gained as a share of the economy much more before- compared to after-globalization. What about imports? Imports of goods increased 2.7 points before globalization and then 3.4 points post-globalization.

It is true that imports of goods picked up its pace after globalization while exports did the opposite. But notice also that much of those changes came in the 13 years after 1990. During the time from 1990 to 2003, exports fell as a share of GDP while imports rose dramatically. But then in the most recent 13 years we see that reversing as the share of exports increased at more that twice the pace of goods imports.

What can we say?

First, goods trade – both exports and imports were rising as a share of the economy for 52 years – both before and after globalization began accelerating in 1990.

Second, when we compare the data before 1990 with what happened afterward you can see much bigger increases in imports of goods relative to exports.

Third, if we look closer at the data since 1990 we see that most of the advantage of imported goods peaked by 2003 and has reversed since.

What does all this mean? For one thing it means that this is a pretty rich stew with a lot of vegetables. If we combine these numbers with the numbers from last week’s blog post we wonder if some of these trade results have something to do with the fact that so many countries have been narrowing the economic gaps between them and the US.

The 1990s were a time when many countries decided to open-up and use trade as a development tool. These countries wanted to rebuild and become more competitive and many were very successful as we saw in this blog last week. As incomes across the world grew, so did their appetites for goods and the growth of US exports of goods verifies this. But as their incomes grew they also became stronger competitors to the US and our goods imports rose as well.

Since so many countries were starting from very low incomes and poor productivity it made sense for the US to make special compensations or to ignore remaining protections in these countries. US citizens gained many of the benefits as more goods were available to them at lower prices. Lower prices gave US residents more dollars to spend and these people redirected some of these surpluses to US companies and created millions of jobs. The GDP data below show remarkable growth in our economy as some jobs declined while other expanded. 

There are some who think that the US can use its own arsenal of protectionist policies to preserve and restore jobs in the US. But that thinking is short-sighted. Despite catching up many countries still retain much lower incomes and a distinct price advantage that goes with it. Protecting US citizens from low prices on low-skilled goods makes no sense. It’s like sticking a finger in the dyke. What makes more sense is to recognize that the world has changed and that developing countries need to protect their own industries and workers less. Let’s not raise the worldwide level of protection – let’s lower it. 

But what about all those US workers in firms and industries that cannot compete? The answer is pretty simple in principle. Protecting these workers is only a temporary measure so long as the American worker makes $50k per year and foreign competitors make half or less. What makes sense is to encourage other countries to keep catching up with our incomes – and to find ways to better train and retrain our workers to fit better into US advantages in education, science, technology, entertainment, communications, and so on. The data below suggest that the export/import issue started turning in 2003. Perhaps we can keep that alive in the next 13 years following 2016.

Billions of Dollars	1964		1977	1990	2003	2016
Nominal GDP		686	2,086	5,980	11,511	18,625
Exports of Goods		27	128	403	741	1,446
Imports of Goods		40	153	508	1,296	2,224
Net Imports		13	24	105	555	778
As  Percent of GDP		1964	1977	1990	2003	2016
Exports of Goods		3.9	6.2	6.7	6.4	7.8
Imports of  Goods		5.8	7.3	8.5	11.3	11.9
Net Imports		1.9	1.2	1.8	4.8	4.2
Source BEA.gov

Trade

You don’t grow bananas or manufacture your own shirts, and Bill Gates doesn’t do his own typing. That’s called the benefits of trade. There was a day when people were mostly self-sufficient. Families grew their own crops, chopped wood, made their own clothing, and so on. But we don’t do that anymore. True, we are all getting fatter as a result. But we are also getting richer too.

The change from self-sufficiency to trade came gradually, and now we don’t think about it. Today is an age of specialization and trade. Most of us are plumbers or accountants or bartenders. We earn incomes at our specializations and use our incomes to buy whatever we need or want. In Tuna’s case, that would mean luxurious vacations for Pat. We don’t think of it this way but what we are doing is benefiting from the activity called trade.

We benefit from trade mostly because of what some whacked out economists call comparative advantage. Bill Gates is really good at what he does for a living. Suppose he is worth $1 million dollars a day in the marketplace. Should he do his own typing? I think not. If he spends a day typing, he loses $1 million and gains the average wage of an administrative assistant. It wouldn’t make sense. And of course, trade doesn’t just help Gates. Some people cannot make business decisions and are not valued at $1 million a day. Some people are really good at being an administrative assistant. Those people are delighted that Mr. Gates needs their services. They happily trade with Bill Gates.

It is true that the administrative assistant might earn $30,000 per year. But that person cannot pawn himself off to a company for more. That person is probably quite happy to find employment for what he is good at. In trade, people willingly enter into agreements, and both parties are advantaged by it. This goes on every day. 

We live at a wonderful time when all we have to do is want something and someone else is there to make it or sell it to us. Of course, we have to uphold our end of the bargain and make sure people value what we do, so we can earn the money to buy all those other things.

That’s pretty simple. But it all goes haywire when we go from talking about Nathan and Christina to similar trade between the US and Mexico. You see, trade is trade, whether it goes across a national boundary or not. The same principles apply. Nations have always traded. Even dinosaurs traded. Trade works because a nation can produce and sell things in which it has an advantage and buy things in which it has no advantage. In doing so, all countries benefit.

Back to benefit. Recall Bill Gates and his administrative assistant. Both of them enter into an agreement willingly and gain from it despite the fact that one is a lot richer than the other. Some people believe that some countries are always harmed by trade. These countries are poor and get taken advantage of. That may sometimes be true but what is also true is a country’s poorness often gives it great advantages in trade. Think of why we richer nations buy things from places like Vietnam. We buy because they have learned production techniques and combined that mastery with employees who are used to living on very low incomes and wages. It might not seem fair to some of us, but if you are from such a country and a new trade deal makes you MORE valuable, you are less inclined to envy the rich and more inclined to take advantage of a higher income and standard of living and perhaps better job security.

Trade is good and makes both parties better off even if it doesn’t make them equal. The problems come when one or more of the parties to trade receive actual benefits that are less than expected. Unintended effects of trade can occur for many reasons. Some reasons are real and can be addressed. Other problems are made up or simply contrived for political purposes.

For example, Bill Gates might suffer business losses because of a new competitor. He might blame his administrative assistant despite the fact that the assistant was not the real problem. So he reduces the wage of his assistant or fires him. Clearly, if the real problem is a new business competitor, firing the assistant accomplishes nothing and sooner or later we find out the truth of the matter.

In the US today, we are rethinking trade. We have trade deficits with the world and with specific countries. We are about to say “You are fired!” to these trading partners. How much of these trade deficits are in fact the direct results of freer or unfair trade? How much are caused by ourselves, or at least things out of control of our biggest trading partners?

I don’t have all the answers but I can offer a few. One answer comes from macroeconomics. We in the US love to spend. We love to buy goods and services. Apparently we can’t make enough to satisfy our love of buying, so we have to import. Maybe if we saved more that would help. Furthermore, we find ourselves in a time when the US economy, despite a lumbering pace, looks stronger than many of our trading partners. We have more ability to buy from them than they from us. None of this has to do with cheating, and none of this argument can be solved by US protectionism.

Another answer has to do with a realistic assessment of economic transformation in developing countries. When we made trade agreements with these countries, we made them with the full knowledge that they were transforming. Transformation is neither easy nor quick. When the Soviet Union collapsed, I recall economists saying that it would take 30-40 years for countries like Poland (not in the Soviet Union) and Latvia to approach rich country status.

What’s the hang-up? The problem is that subjecting a country that was centrally planned for decades to the rigors of competition is rough. You can’t wave a magic wand and privatize very inefficient companies that have little experience with competitive markets. Likewise you can’t overnight liberalize prices of all goods and services when many prices were kept at a very non-economic low.

Rapid privatization of companies can lead to large-scale unemployment and liberalization of prices can cause drastic increases in prices. Any country engaged in these and many other transition policies understands the social/economic upheavals associated with change. Nevertheless, they do it because of the eventual benefits transformation promises.

Richer countries know this, and trade agreements were made with the understanding that many of our important trading partners have government-owned companies and government control over prices, wages, and many other things. To say today that country X unfairly subsidizes its industry Y makes no sense. The word subsidize makes no sense in the context of a transforming nation.

Are we all wrong and are they all right? No. Maybe we do need to reopen some trade agreements. After all, some of them are old, and times have changed. But in doing this we need to remember a few things. First, some of these problems we bring on ourselves because we probably won’t ever produce enough to satisfy our appetite for goods and services. Second, some of the problems will go away when economic growth in other countries returns to something more normal. Third, developing countries are still developing. They have very low incomes. They are in transition. 

Putting unrealistic pressures on them only weakens them. We don’t gain by weakening the people who we want to buy our goods.

Trade is good. Trade agreements can be reopened. But there are clear limits to what can be accomplished without changes in our own domestic policies. 

Strong Dollar. Who are We Going to Blame Now?

President-elect Trump rode into Washington on a horse named Unfair Competition. One part of the story is how other governments manage their currencies so as to gain a competitive advantage against the US. And while I agree that countries sometimes do that, such currency manipulations are not among the dominant forces now. If anything we in the US are the one’s causing our manufacturers to lose competitive advantage.

Why worry? Or was that What me Worry? Regardless, in the last month (between November 4 and December 2) the dollar went soaring. It rose in that short time by more than 10% against the Japanese yen and 8% relative to the Mexican peso. It rose by about 5% against the euro and the Brazilian real and by lesser amounts against the Korean won and the Chinese renminbi. It held steady against the Canadian dollar. When the dollar rises by such large amounts US exports are less competitive in global markets. So we fret. This puts US exporting companies at a disadvantage. Clearly the bad guys must have done this to us!

But alas, I don’t think that is true. Most experts are saying that we did it to ourselves. Experts are saying that the Trump bump is making people more optimistic about the US economy. This optimism makes US assets like bonds and stocks much more appealing to investors. It also emboldens Ms Yellen and her band of Federalies to raise interest rates. Thus we are receiving a tsunami of attention from global investors who must first buy dollars so they can buy our very attractive assets. This revived love of dollars means a higher value for the dollar.

This is not a trick played on us by evil China or Mexico. The negative impacts on US exporters are because investors have concluded that Trump will be good for the US economy – at least for a while. Even before this latest wave of foreign investment, the world marveled at how the US recovered after the global recession while other countries continued to struggle. This has been lifting the dollar for some time and has made life difficult for US exporting companies. During the last two years the dollar rose by 13% against the renminbi. It also rose by 8% against the yen and by almost 30% against the euro. 

This doesn’t look like unfair currency manipulation to me. It has more to do with US policy and economic performance. It is market forces working in a global economy.

So maybe we should dispense with the unfair competition talk and ask ourselves what we really want. If the "experts" are correct, then it appears that the best way to help US exporters is to do something to make the US weaker and grow more slowly. But that is tantamount to throwing the baby out with the bath water.

Instead, if we really want to help our exporters, we ought to have policies that do not weaken our trading partners. When they get stronger they will buy more – and some of that extra spending will be directed toward US goods and services. Slapping tariffs on goods we import from key trading partners will do nothing but weaken them, make the dollar stronger, and smack our exporters. Are you sure that’s what we want to do?

One last point. The last time I looked it took two to tango. It also takes at least two to do JD shots but that’s a different story. Trade is more than an export story. While the optics are vivid with respect to exporters and their workers – countries gain with strong imports and with strong inbound and outbound investment. Keep in mind that when the dollar appreciates and negatively impacts exports – that same rise in the value of the dollar improves the situation for importers and makes foreigners more interested in investing in the US. Keeping in mind that many US imports are business goods that add to US productivity, a high and rising dollar is sometimes on net, a great boon to American business. The optics of the latter are less clear than the export story but nevertheless are important.

Summary: We should be alert to real rather than imagined unfair competition. Let's stop tilting at windmills. Competitive advantage of a country is determined by more than export sales. Policy should focus on the many avenues in which trade enhances American well-being. 

The Gravity of Globalization

Much is being written lately about globalization. Free traders love to see more cross border activity. Non-Free traders wish international trade would be less prevalent. Belgian Walloons tried to stop a free trade agreement between Europe and Canada. I was once in Seoul when a monk set himself on fire and died to protest the coming FTA between S. Korea and the USA. Free trade and globalization have become a central focus in the current US presidential campaign.

Much of the debate has to do with politics and ideological warfare applied to trade. But it helps to know that there are basic economic forces to explain both the rise and the fall of globalization. These basic economic forces have been described by using something called a gravity model. Gravity is the force that attracts a body toward the center of the earth or toward any other physical body having mass. As Charlie would say – gravity is the thing that keeps us from falling off the earth. It is also the thing that causes bird poop to come down on unsuspecting heads. The pull of gravity between two bodies is proportional to the masses of the bodies and inversely proportional to the distance between them. Two large bodies close by have a lot of gravitational pull. Two distant small bodies would have little pull.

Economists have applied gravity models to economic issues. St. Paul and Minneapolis are two cities in Minnesota. Bloomington Indiana and Palo Alto California are also two cities. A gravity model predicts that there would be more trade between the larger close cities St. Paul and Minneapolis than between the smaller distant cities Bloomington and Palo Alto. To apply this basic theory to globalization we need to better define the terms mass and distance as they relate to trade.

Mass refers to economic size but it should be the relevant economic size. For example, if two distant small cities were very specialized art centers – then you might expect a lot of trade in art objects between those two cities. Or if two large close cities had a mountain in between them, then that object might impede trade between the two. Dig a tunnel or build a road through the mountains and the situation changes. Much more trade would be expected.

These ideas are easily applied to globalization. While the physical distance between countries and cities did not change in the 1990s, the distance measured in economic terms did. For one thing technology great reduced the costs of communication and transportation in the last 25 years. For another, the fall of the Soviet Union and the demise of many dictatorships in Latin America allowed people in dozens of countries the legal right to trade. Technology and political change were tantamount to pulling nations much "closer" together or removing a mountain. As they came closer they discovered the benefits of trade.

Harvesting low hanging fruit is easy. But once the easy to reach apples are gone, you need a ladder to get the higher ones. The picking process gets more challenging and more costly the farther up you go. The same happened with globalization. It was easy to get rid of thousands of tariffs. Those tariffs hindered growth in most countries so the politics of tariff removal were easier. When world economic growth picked up and countries dropped many trade restrictions, it seemed like most people in most countries benefited. Today it is harder to see how technology or politics would change again so dramatically so as to make international trade even more seductive. It was hard to see the things that might change in the future that would make serious dents in the costs of distance.

And then it got harder to agree on liberalization. The tariffs that were left (on the higher branches) were the ones that offered protection to a country’s farmers or steel makers. But tariff protection was not enough to satisfy some free traders. If barriers to goods could be beneficial, then why not remove obstacles to trade in services (like airlines, banking, healthcare, and so on)? If restrictions on cross-border investing and mergers and acquisitions seemed unfair, why not remove those barriers too?  If laws did not protect ones ownership of intellectual or other property then why not make it harder for foreigners to easily pirate your patents and copyrights?

Once the low hanging fruit was gone, the remaining trade barriers were much harder to remove. With no earth-shaking transportation/communications inventions expected it is harder to convince voters of the needs for freer trade. This is why the so-called Doha Round of the World Trade Organization remains unsigned though negotiations started in November 2001. The average person says something like – yes, we want the benefits of trade but we do not want to be exactly like other countries. We don’t want a one world government. We don't want our our national champions weakened. 

Inasmuch the advancement of free trade and free trade agreements has become even more political and ideological. As we move to closer economic integration, the benefits of the potential trade are fuzzier and the costs of trade in terms of reduced national independence and stability seem scarier.

Further global trade integration is not impossible. It is just tougher. It is made even more difficult in an epoch of slow world growth. In a slow growth world economic mass is not increasing and it is harder to believe that trade will raise all boats. But it is easy to see the risks to any nation that lowers its barriers. In a world where growth is strong, there is less to lose. Growth means people are doing better, worry less, and are more willing to try something that makes them even better. Without much stronger economic growth I find it very hard to envision a world in which globalization advances. 

Free Trade and Burpees

I’m bothered that people don’t see trade the same way I do. Despite the fact that trade is highly multidimensional, people still focus on just one part – the trade deficit in goods. The trade deficit in goods is the telling figure to most people. We import more goods than we export. So there must be something wrong with us. Furthermore they equate years of decline in manufacturing employment with this surplus of imports. It sounds simple. We buy stuff from China instead of America and therefore we have a trade deficit and employment contracts in the USA.

But simple things are sometimes not so simple.

First, an analogy. Ashley tells Jason he should exercise more. It’s good for you, she says. So Jason starts a new exercise routine. Hey Ashley he says, my arms and legs hurt. They are killing me. Keep exercising she says, it will help your whole body. You will thank me later.

The pains of free trade are quick and obvious. To those displaced or diminished, their plights are not to be minimized or ignored. They must be assisted. But that is an issue separate from whether or not we should incur the pain. Some people say, no pain no gain. Maybe that is extreme. But ask any Olympic athlete and they can tell you how many hours and Ibuprofen it took to master their sport. Ask any musician how easy it was to learn how to make nice music.

With international trade we see the obvious hardships the nation must incur today. But the benefits are gradual in coming, diffused and much more difficult to see. Exercise does not make you jump 17 feet over a bar today – but it does help you be stronger and more flexible as you age.

Still, you might wonder whether the US benefits from trade. Consider this. Our population is 324 million people. The world’s population is 7.4 billion. There are lot of wants and needs residing outside of the US. And those  needs are growing. World per capital income (according to the World Bank) rose from $500 per person in 1960 to $10,000 in 2015. 

The average American made more than 5 times what the average world citizen made in 2015. World GDP rose by $72 trillion from 1960 to 2015. In comparison, US GDP rose by less than $18 trillion. POINT – the rest of the world has a lot of catching up to reach the US standard of living – and as they do their incomes will rise by huge amounts. They may not be there yet, but we definitely want to position ourselves to take advantage of rising world wealth. Being hostile to foreign business is not a great way to do that.

Finally let’s look at some trade data. Today I focus on the real values of goods exports and imports. This leaves out services because they are in surplus. These measures also eliminate prices and focus on the quantity of goods coming in and out of the country. I looked at the annual data since 1967. The numbers are percentage changes. Data can be found at bea.gov.

·       Of the 48 years between 1967 and 2015, in 22 of those years US exports grew faster than imports. In 26 years imports grew faster exports.

·       Goods imports annual percentage change exceeded goods exports sporadically (1968, 1969, 1971, 1972, 1976, 1977), from 1981 to 1986,  from 1992 to 1994, 1996, and 1998 to 2004, 2010, 2014, 2015.

·       In all the remaining years, exports of goods annual percentage change exceeded import change. More recently exports growth from the US exceeded import growth from 2005 to through 2013.

·       This is not the picture of a uniformly declining competitiveness of the USA because of globalization. In fact 12 of the 26 years when imports were rising faster than exports were before globalization picked up in the early 1990s.

·       In 2004 exports of goods trailed imports – with exports just over 50% of the value of all imports. By 2013 the ratio had increased to about 70%.

It is true that the US has a large goods trade deficit with the rest of world and especially with China. It is also true that this deficit has widened in value terms. But if we focus on real values we see a comeback with exports of goods growing faster than imports. This in no way proves that all is good and fair in international trade. But as the world regains its momentum and the rest of the world stabilizes and begins to catch up with US growth, we should expect them to want even more US goods. Shutting their goods out of US markets will do little to promote their desires to buy from the US.  One more point. 

We should expect that many countries would become stronger competitors to the US once they recovered from World War II damages. We should expect as well that many countries would compete against the US after the massive reforms that occurred worldwide after the collapse of the Soviet Union and dictatorships in South America. We can’t stop any of that and it would silly to try to do so. This tsunami of competition would have occurred with or without free trade agreements. We can argue about unfair trade but the truth is that America is being tested. We can complain about the competitors or we can get busy in figuring out the best way to remain strong in this new world. Withdrawing from the global stage seems counterproductive.

Lesson 13 Free Trade

I thought I knew the meaning of the words free trade. But listening to political dialogue these days I am more confused than Charlie Sheen at a lesbian AA meeting. I am mostly confused because some candidates say they are for free trade and then they explain why they oppose actual attempts to make trade freer. It is like you saying that you are for motherhood, but you think that women should not be allowed to fertilize their eggs. Wow – this is supposed to be a family blog and I used the word fertilize. I apologize.

You don’t have to have a PhD in meteorology to know that free trade is a desirable outcome. Can you imagine people protesting with big signs in favor of Not-Free Trade? It sounds pretty weird. We like things that start with Free. Like Free Love. What could be wrong with that? Then there is Free Enterprise. Free is the first four letters of the word freedom.

When I was a little economist with long pants and an Adam Smith tie I learned that free trade was a really good thing. Imagine free trade within your borders. Free trade means that Charlie can produce rose hip wine for Pete and Pete can sew doilies for Charlie. Both Pete and Charlie are made better off because Pete is lousy at making wine (he drinks more than he makes) and Charlie couldn’t sew his way out of a Goldman Sacks bag. Letting these two lovely fellows trade makes them both happier and richer.

The same basic idea can be applied to Paco and Juergen. Paco lives in Barcelona and Juergen lives in Germany when he is not globetrotting. Paco can make wonderful paella and Sangria and Juergen can produce machines and large spears of white asparagus (in the spring). They trade and both are made better off.

All that seems pretty clear. But economists can’t stand it when easy ideas don’t have complicated names and mathematical formulas – so they call this process comparative advantage. You could read a chapter in an economics book called comparative advantage and then want to kill yourself. But believe me, it is easy stuff. It explains why you don’t make your own t-shirts and why you’d prefer to buy one from the local t-shirt shop or maybe one made in China. The cool idea is that whether you buy the t-shirt (that says I sat by the window at the Mucky Duck) from Bloomington or China, you are not making the shirt yourself! Someone who knows how to make a really good shirt is making it for you. Apparently you are pretty good at making something else.

So what’s the problem? The problem is that in the real world there are three parties. Genevieve has been making t-shirts for three years. Along comes Nolan and he decides to make t-shirts too. Nolan's t-shirts glow in the dark. Brendan quits buying Jen's shirts and buys Nolan's shirts. Jen's business is threatened. Jen’s class erupts into chaos at their scheduled kickball time and begins chanting down with Nolan slogans.

The problem with free trade is that it advances mankind. You read that right. Free trade is all about free choice – freedom to replace one thing with another. We replaced the horse with the auto and the tractor. We quit eating fatty ribeye steaks and replaced them with corn on the cob and Brussel Sprouts. We threw away our wonderful phonographs and now use Spotify. Enough? Every one of those choices has a plus and a minus, but most of the choices make us all better. Proof? I don’t see many of you wanting to replace your new electric vehicle with a horse named Nathan.

Society does not like it when some people suffer. Society especially doesn’t like it when the person hurting seems to be suffering because we made a choice for a foreign-made product. There will always be a constituency that wants to help neighbors who lose jobs and income and careers because of either domestic or foreign competition. But don't forget. Helping these people means you restrain the benefits of trade and are hurting others. 

So that gets me to free trade agreements. FTAs are ways to promote free trade. That means removing or reducing tariffs or other obstacles that discourage trade across borders. FTAs encourage those positive results I wrote about above. My Google search says that the US has FTAs with 20 countries. Among the 20 are Australia, Canada, Israel, Korea, Mexico, and Singapore. We are contemplating more FTAs with Pacific countries and Atlantic countries. And while our candidates say they are proponents of free trade, they are also saying these new agreements are not good and Mr Trump says he might want to rip up some of those 20 we already have.

How do we get the benefits of free trade without FTAs? The answer is that that we don’t. Keep in mind that when countries negotiate a new FTA they require each country to do something to improve access to their markets. They might reduce a tariff or eliminate a quota. They might change a regulation that purportedly changes food safety or labels or names of products. There are many ways that countries protect themselves from the benefits of trade. Thus there are many ways to reduce those protections and encourage freer trade.

Our candidates are stepping back from these FTAs and are saying that we opened our economy more than our partners did. And thus our partners got more of the benefits of trade than we did. But keep in mind these points. First and foremost – all parties benefited from freer trade. Second, it is impossible given the diversity among the partners and the multitude of ways trade impacts a nation to insure that each country gets exactly the same benefits. Third, as in my examples above, all countries create losers in the process of opening up trade.

Free trade helps us. FTAs are the best way to keep expanding these benefits. Some politicians will point out the imperfections of these FTAs but any move away from free trade is going to hurt us. If I had my equations with me I could prove this with math. 

What Else? Brexit

Everyone is talking about Brexit. It reminds me of the conversation I overheard after the NBA Championship. One person remarked about how he was very sure that the Cavaliers would win despite being down in the beginning of the series. His curious friend asked why. He said it was the uniforms. He really loved the uniforms.

When an event gets elevated to infinite coverage in the media we all think we need to have strong opinions despite not knowing a thing about it. That’s how I feel about Brexit. EVERYONE is part of the national obsession to have an opinion about it. I cannot believe how much has been written or spoken about it since the results of the referendum were known. What are we to think?

As in the NBA example above, a beginning step would be to know answers to some basic questions. What is the NBA? What are the rules of basketball? Why do players constantly touch each other and then get irritated when the little men in the striped uniforms blow whistles?

There are a lot of similar questions we might ask pertaining to Brexit before we start having opinions about its impacts on us. What is the EU and why would any self-respecting country ever join it when national sovereignty is at stake? What is the UK? Is it in Kentucky?

Today’s post has two objectives. First and foremost I want to provide some background and write about the EU and the UK. The upshot is that while national sovereignty is at issue, the loss portrayed by the LEAVE group was highly exaggerated. The LEAVE group has as much to fear from its own government's ideological tendencies than it had from some centralizing devil called Europe.Second I want to make the point that compared to other crises suffered in the near-past, this one is almost totally psychological.

Let’s start with the second objective. Nothing has happened except to announce that a referendum declared that Brits want out of something called the European Union. While the UK government will probably go along with the popular will, it will take a while. So let’s be clear. For a while nothing has happened. Stocks of dotcom companies did not find reality. The load of bad subprime mortgages did not become impossible to bear. No government raised taxes or reduced pension spending.

Nothing bad happened in the way of the usual macro suspects. What happened is that a country decided to not be in the European Union. So the first point is that nothing happened to directly cause crashing stock and foreign exchange markets not to mention the price of a gallon of gasoline.  Okay -- the British government has become less functional. Is that a plus or a minus? Really! 

Aha you say – but markets did crash and babies cried. And that’s my point. It is mostly psychological. It is all expectations! What happened is that a bunch of soccer rowdies decided to quit the EU club sometime in the near future. And that set off a lot of concern. I am not making fun of the concerns. They have some basis. But keep in mind that Brexit will be gradual and it will be in the best interest of most parties involved to make it work smoothly and to try to minimize the many impacts that will arise as the divorce takes place. Recall that President Obama advising Brits to stay in the EU said some threatening things. But now that the decision has been made he is already promising to find ways to make the transition work.

I am not forecasting the future but what I am saying is that the alarm bells may be a little too shrill for the reality. Brexit is not the end of the world and Brexit will unfold with many impacts in many places and we will deal with them. Let the markets take a big breath.

Now for the background. A basketball is a round thing that you bounce on the floor and then shoot through a little hoop. 

Now for the United Kingdom. Straight from Wikipedia (https://en.wikipedia.org/wiki/United_Kingdom )

The United Kingdom is a constitutional monarchy with a parliamentary system of governance.^[12] …The UK consists of four countries: England, Scotland, Wales, and Northern Ireland.^[15] The latter three have devolved administrations,^[16] each with varying powers,^[17][18] based in their capitals, Edinburgh, Cardiff, and Belfast, respectively. The nearby Isle of Man, Bailiwick of Guernsey and Bailiwick of Jersey are not part of the United Kingdom, being Crown dependencies with the British Government responsible for defence and international representation.^[19]

Most relevant is that the UK (often called Britain or Great Britain) is a sovereign state in Europe and is mostly composed of England, Wales, Scotland, and Northern Ireland but not Ireland or Puerto Rico or Texas. The UK joined something called the European Economic Community (EEC) in January of 1973 and then in June 1975 another vote solidified its membership in Europe. As of last week Britain will be the first country to reverse a decision to join the EU. Apparently the English wanted Brexit but not so clearly in the other countries in the UK. So that brings up a possible change in the make-up of the UK itself.

Moving along, what is the EU? The EU was a club of 28 sovereign nations. In the future it will have 27 members. The beginnings of European integration came after WWII when Belgium, the Netherlands, and Luxembourg joined France, and Germany, and Italy in something called the European Coal and Steel Community. The basic idea was that maybe if they cooperated on economics they would quit starting world wars. It worked pretty well and a very quick history is that they moved on from coal and steel to the idea of a single largely unimpeded market across Europe.

Until last week more and more countries embraced the idea of a free market in Europe. And they joined the EU. Sure Germany was the economic heavy weight. But like most free trade areas, the rest joined because of the expected benefits arising from fewer trade barriers and the removal of tariffs. Not all was tea and crumpets – with the single market came incursions into national sovereignty. Then came the euro currency that was adopted by 19 of the 28 countries (and not by Britain). Some thought a single currency made sense in a single marketplace. Others see it as too much togetherness. Now some want a single fiscal policy. So far no cigar on that one.

So you see the story, right? A free single market makes a lot of sense. That is the glue of the EU. Giving up too much power to Europe is not always popular in any given country or countries. But keep this one fact in mind. The institutional design of the EU is to protect national sovereignty. As in any club you join you win some decisions and you lose others. So long as the benefits of club membership are great enough then you stay in the club.

Quit snoring. I am almost finished. Like the US, the EU has executive, legislative, and judicial branches. All the institutions are run by representatives of the sovereign states. For example, the Council of Ministers is literally a group that consists of the government ministers of each EU country. The EU Parliament members are voted for in each country by the citizens of that country. The point is that EU legislation and rules are legislated and approved in each country before they can become EU law. 

Most rules must have unanimous support from all 28 states. In the very relevant situation of immigration, a country has the right to opt out of any or all EU agreements. This link lists all the area of EU governance that require all 28 states to have unanimous support 
https://en.wikipedia.org/wiki/Voting_in_the_Council_of_the_European_Union#Unanimity

Whew. Where is my bottle of scotch? Er I mean JD.