Why Depressions Attract Protectionism

Depressions, and severe recessions, attract protectionism. It’s the nature of the beast. So long as political pressures are “to do whatever it takes to create prosperity” at home in the short run, governments will target spending to domestic firms (an increasingly squishy concept in a global world). What politician would defend to local constituents a bailout package where foreign firms directly benefit from the expenditure of domestic tax dollars?

Though I did not vote for him, I appreciate the principled approach that President Obama is taking here. He is taking a longer view, and wants to avoid trade wars. Few politicians take the longer view; that is why they are not statesmen.

By their nature, economic crises make people short-termers. They look to what will help themselves survive amid volatility. The long-term good of many would involve patience, and a willingness to not press for short-term advantage. Perhaps kings could do that, though often they didn’t, but democratic officials are on a short leash from their electorates.

Even authoritarian places like China tend toward protectionism, though. Their legitimacy is based on their ability to deliver continued prosperity. There is increasing unrest in China during this slowdown; expect the Chinese government to do what it can to appease its populace, including measures that protect local businesses.

That’s why I am not surprised at protectionist impulses at this time. They are short-term rational for politicians, while long-term irrational for economies. This is just another reason why we are foolish to trust in politicians to assure our economic well-being. Their short-term orientation is out of sync with what it takes to manage an economy.

We will be best off if after this crisis we realize that the government played a starring role in creating it, and mismanaging it. Were there businessmen to blame? Yes, but they took their cues from financial regulators that stopped regulating, and an accommodative monetary policy. The government did not do its job right, assuring the value of currency/credit.

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Additional Notes:

1) Now Barney Frank wants to hand over oversight of systemic risk to the Federal Reserve. As if they can do their current job well — the Peter Principle is in action here. I was joking about it last year, but why not create the Federal Office for Oversight of Leverage [FOOL]? After all, the tasks of monetary policy are considerably different from those of containing systemic risk, even though they are related.

2) Speed really benefited us during the original passage of the TARP, right? No, it didn’t. So where does Timothy Geithner get off urging speed at this point? Speed does not eliminate bad debts. Speed does allow for many venal legislators to push their own pet projects, and use a crisis to disguise their efforts.

3) Read Yves Smith’s piece: The Bad Bank Assets Proposal: Even Worse Than You Imagined. Our government resists letting banks fail, and then letting the FDIC/RTC2 reconcile them. They would rather intervene to let marginal or defunct entities live.

Comments

[besposito]

Globalisation can only help an economy in a world of true free trade. When everyone controls, manipulates, and monopolizes this just isn't the case.

Real wages in America have decreased, while debt has increased. That is clearly unsustainable. How can you avoid deflation in America while wages are deflating? I suppose a giant bubble of debt based on past wealth might do it for a time....

Look at what the auto "fixes" are doing from a macro point. Ignoring the job losses, what is happening to wages? Current and future, for people who are re-hired to the new entities. Look at what is happening to wall street salaries. Look at all the stories of people having to find lower paying jobs to get by. What will the surge in supply of recently laid off workers do to wage pressures?

Commentators say inflation is only a problem when it feeds back into wages and you get a spiral. Well, we have deflation in assets, and the consequences so far are lower wages.

Countries need to accept the pain that they have earned through stupidity and fake free trade. Once their own "houses are in order" then new free trade pacts should be created between equals. Countries who follow the same currency, environmental and worker protection laws. The current "free trade" is an unsustainable poison.

2009 Feb 04 10:22 AM

[satellite radio is dead]

Mr. Merkel, you should review Obama's voting record before praising him for his trade rhetoric. While a senator, he voted almost unanimously against free trade: CAFTA, Colombia, and South Korea, to name a few. Furthermore, his stance on NAFTA during the Democrat primaries made it clear he intended to "renegotiate" the trade policy, so one wonders if he'd move to drop it altogether if Canada and Mexico didn't share the need to discuss it.

The protectionist "genie" is out of the bottle. Obama can talk about negotiations with Congress to remove such protectionist provisions from the stimulus, but now that our Congress is showing its nationalistic cards, the rest of the world seems to be moving to the side of caution against this left-leaning Congress. Besides, in the ten economic "panics" that this country has suffered over the past 210 years, protectionism became the key issue in nine of them. But we are still waiting to see if the 2008 panic will keep that record perfect. Given the protectionist measures that are being embedded within stimulus legislation around the globe, it would be wise to bet that past is prologue.

2009 Feb 04 04:20 PM

[Chris B]

I am mostly invested right now because I see the government mostly doing the opposite of what was done in the 1930's US and the 1990's Japan.

In each of those previous failures, governments:

-Allowed overall money supply to shrink, rather than expand, by making only tiny, symbolic attempts to stimulate the economy (This time, government stimulus efforts of around $2T are plugging the hole created by $13T+ of wealth destruction in real estate and investments, so I still worry that the efforts will be insufficient.).

-Were more worried about preventing short term deficits or stimulating a little short-term inflation than preventing a decade-long depression.

-Assumed markets would quickly reach equilibrium and recover through liquidation (the Andrew Mellon / Herbert Hoover ideology).

-Applied protectionist tariffs, shutting down world trade, creating inefficiencies, shortages, unemployment, and crushing businesses for the benefit of a few constituents.

If Obama fails to learn from history and fails to veto protectionist legislation, then I will take that as a sell signal and probably move into cash to survive the coming decade of deflation and depression.

The short-term dynamic described by the author may indeed doom democratic societies to a deflationary depression every generation or so - however long it takes voters to forget the lessons of the past.

2009 Feb 05 11:31 AM

[kelm]

I anyone thinks what we have seen so far is protectionism they are mistaken. This is just a faint breeze on a spring day compared to the gale we will see when the first labor demonstrations happen.

2009 Feb 05 12:01 PM

[Consider_this]

I have no doubt in my mind that protectionism hurts every country. If globally enacted, it will put us back a decade of free trade progress. It'll hurt the average people's standard of living. How would you like to buy 50$ cups and plates?

Personally, I do not support it; however lets not forget where the govt is coming from:

Although Protectionism does hurt USA, but it hurts FOREIGN countries more.

Simply because we have a trade deficit.

We export less than we import. Protectionism will limit imports and although it will also hurt exports, our export numbers is so much smaller to start with.

As a gunpowder of trade war and exerting influence on foreign economies and policies, and as a "nuclear option" bargaining chip, I think it is quite effective.

I think what the govt is doing is far more complex than what people give it credit. The govt is signaling. It's hinting to the foreign countries that if they don't fund and support our bailouts by buying (at a loss to them) our debts, then we always have the option of hitting the nuclear option.

Balanced trade hurts them way more than it hurts us. If exports and imports both fall to 50% of their current volume, from a trade deficit point of view, USA actually have an IMPROVED position! It'll put export commodities and oriented economies into a tail spin.

I think that's what the govt is trying to signal / do; not necessarily to actually enforce buy American.

2009 Feb 05 12:54 PM

[Consider_this]

Corrections, fixed as below:

If exports and imports both fall to 50% of their current volume, from a trade deficit point of view, USA actually have an IMPROVED position! It'll put export and commodities oriented economies into a tail spin.

On Feb 05 12:54 PM Consider_this wrote:
> If exports and imports both fall to 50% of their current volume, from a trade
> deficit point of view, USA actually have an IMPROVED position! It'll put export
> commodities and oriented economies into a tail spin.

2009 Feb 05 01:07 PM

[Chris B]

If you only look at the goods side of the trade, we import more than we export. However, if you look at exchanges of both goods AND money, there is no such thing as a "trade imbalance" because the goods and money that were swapped were of equal value, as determined by market prices. 1 crate of shoes = $100. $100 = 1 crate of shoes. Trading your shoes for dollars doesn't create an "imbalance" any more than trading your labor or dollars at work.

Thus, if we shut down all our ports and borders, foreign countries would stop receiving US dollars and investments. The US would receive no physical products (computers, shoes, toys, clothing, oil, phones, commodities, etc.). The foreign countries would retain the facilities and factories to make goods and employ their people, and the US wold retain.... what? Money we printed? Can you sew clothing out of it?

The US would suffer more from protectionism because there would be shortages of actual goods and the factories to produce them (it would take 30-40 years to build a domestic mfg. base to supply the whole nation). Meanwhile, countries that produce the most goods could still be economically productive, with or without us. They could finance the transition with their dollar reserves!


On Feb 05 12:54 PM Consider_this wrote:

> Personally, I do not support it; however lets not forget where the
> govt is coming from:
>
> Although Protectionism does hurt USA, but it hurts FOREIGN countries
> more.
>
> Simply because we have a trade deficit.
>
> We export less than we import. Protectionism will limit imports and
> although it will also hurt exports, our export numbers is so much
> smaller to start with.

2009 Feb 05 01:52 PM

[brain]

Depressions DO NOT attract protectionism; only those poor economic theories that ultimately cause such large declines. Fiat-based, trickle-down globalization will go down as the big Kahuna of them all. A conglomeration of bad architecture supported by even worse foundations. America is a dead horse lest she begin to produce more of the goods she now imports from half-way round the world; and does so by moderating the gap of wealth by improving wages for the average worker. Protectionism is coming, like it or not, because there is no other choice.

2009 Feb 05 02:18 PM

[Consider_this]

Chris B,

Let's not forget I don't support Protectionism... but to clarify about the mechanism of how the protectionism would work, here goes...

Let me introduce you to the Warren Buffet plan (he actually proposed this):
1. Every export gets a "certificate" for every dollar they export.
2. Exporters can sell the certificate in a clearinghouse, importers may buy them.
3. Every import must be accompanied by such a cert of equal value to the goods they're importing.

(You can expand the "export" or "import" to include services or even investment goods if you want, but lets keep it simply at physical goods for simplicity sake)

Viola, instant trade balance, no matter how foreign countries do currency pegging and/or subsidies to their exports, etc. Trade deficit will be ZERO.

As you've alluded, this will cause shortages and price spikes inside USA ($50 plates and cups here we come!) Standard of living will definitely drop. I don't dispute that.

What is interest is what will happen *after that drop*. Suddenly, there will be a surge in manufacturing activity in the USA, because suddenly it will become profitable to make more goods in the USA again. It won't happen overnight, and yes, it will take time to grow our manufacturing base; but:

1. It takes only 6-9 months to build a modern factory for regular goods, even less time to retool or expand existing facilities.
2. USA is actually the largest manufacturer in the world (www.ft.com/cms/s/0/25c...)
3. We have one of the best productivity per labor unit in the world.
4. Jobs will come roaring back into the USA as a result. Our standard of living will drop, but there will be jobs aplenty. This will put a floor in our spiraling deflation.

Lest you think that protectionism is a nail in the coffin for USA. It is not so. It actually solves a lot of USA's problem, however at the expense of all our improvements in standard of living and at the expense of the globe's progress for so long.

However, like I said in my other comments in other articles, I don't support it. Because it's like trying to solve a famine by killing people; it's willful destruction and beggar thy neighbor policy.

2009 Feb 05 04:33 PM