Economist's View: Should Environmental and Labor Standards Be Part of Trade Negotiations?

リンク: Economist's View: Should Environmental and Labor Standards Be Part of Trade Negotiations?.

Should we refuse to trade with countries with low environmental and labor standards, or countries that have very low taxes or subsidize exporting industries because this gives them an unfair advantage? Here are arguments against insisting on "fair trade" standards as a condition for trade liberalization:

What Should Trade Negotiators Negotiate About? A Review Essay, by Paul Krugman, March 1997: ...The economist's case for free trade is essentially a unilateral case - that is, it says that a country serves its own interests by pursuing free trade regardless of what other countries may do. Or as Frederic Bastiat put it, it makes no more sense to be protectionist because other countries have tariffs than it would to block up our harbors because other countries have rocky coasts. So if our theories really held sway, there would be no need for trade treaties: global free trade would emerge spontaneously from the unrestricted pursuit of national interest. ...

Fortunately or unfortunately, however, the world is not ruled by economists. The compelling economic case for unilateral free trade carries hardly any weight among people who really matter. If we nonetheless have a fairly liberal world trading system, it is only because countries have been persuaded to open their markets in return for comparable market-opening on the part of their trading partners. Never mind that the "concessions" trade negotiators are so proud of wresting from other nations are almost always actions these nations should have taken in their own interest anyway; in practice countries seem willing to do themselves good only if others promise to do the same.

But in that case why should ... we demand ... only of trade liberalization? ... In particular, environmental advocates and supporters of the labor movement have sought with growing intensity to expand the obligations of WTO members ..., making adherence to international environmental and labor standards part of the required package; meanwhile, business groups have sought to require a "level playing field" in terms of competition policy and domestic taxation. ...

In 1992 Columbia's Jagdish Bhagwati ... and Robert E. Hudec ... brought together an impressive group of legal and economic experts in a three-year research project intended to address the new demands for an enlarged scope of trade negotiations. Fair Trade and Harmonization: Prerequisites for Free Trade? ... is the result of that project. ...

In this essay I will not try to offer a comprehensive review of the papers; in particular I will give short shrift to those on competition and tax policy. ... Instead, I will try to sort through what seem to be the main issues raised by new demands for international labor and environmental standards.

The economics and politics of free trade

In a way, the most interesting paper in the Bhagwati-Hudec volumes is interesting precisely because the author seems not to understand the logic of the economic case for free trade - and in his incomprehension reveals the dilemmas that practical free traders face. Brian Alexander Langille, a Canadian lawyer, points out correctly that domestic policies such as subsidies and regulations may influence a country's international trade just as surely as explicit trade policies such as tariffs and import quotas. Why then, he asks, should trade negotiations stop with policies explicitly applied at the border? ...

What Langille fails to understand ... is that serious free-traders have never accepted as valid economics the demand that our trade liberalization be matched by comparable market-opening abroad; and so they are not being inconsistent in rejecting demands for an extension of such reciprocity to domestic standards. If economists are sometimes indulgent toward the mercantilist language of trade negotiations, it is not because they have accepted its intellectual legitimacy but either because they have grown weary of saying the obvious or because they have found that in practice this particular set of bad ideas has led to pretty good results.

One way to answer the demand for harmonization of standards, then, is to go back to basics. The fundamental logic of free trade can be stated a number of different ways, but one particularly useful version - the one that James Mill stated even before Ricardo - is to say that international trade is really just a production technique, a way to produce importables indirectly by first producing exportables, then exchanging them. There will be gains to be had from this technique as long as world relative prices differ from domestic opportunity costs - regardless of the source of that difference. That is, it does not matter from the point of view of the national gains from trade whether other countries have different relative prices because they have different resources, different technologies, different tastes, different labor laws, or different environmental standards. All that matters is that they be different - then we can gain from trading with them. ...

The point is that all that matters for the gains from trade are the prices at which you trade - it makes absolutely no difference what forces lie behind those prices.

Suppose your country has been cheerfully exporting airplanes and importing clothing in return, believing that the comparative advantage of your trading partners in clothing is "fairly" earned through exceptional productive efficiency. Then one day an investigative journalist, hot in pursuit of Kathie Lee Gifford, reveals that the clothing is actually produced in 60-cent-an-hour sweatshops that foul the local air and water. (If they hurt the global environment, say by damaging the ozone layer, that is another matter - but that is not the issue). You may be outraged; but the beneficial trade you thought you had yesterday has not become any less economically beneficial to your country now that you know that it is based on these objectionable practices. Perhaps you want to impose your standards on these matters, but this has nothing to do with trade per se - and there are worse things in the world than low wages and local pollution to excite our moral indignation.

This back-to-basics case for rejecting calls for harmonization of standards ...[shows] that neither the ability of a country to impose such standards nor its benefits from so doing depend in any important way on whether other countries do the same; so why not leave countries free to choose?

Bhagwati and Srinivasan also raise two other arguments on behalf of a laissez-faire approach to standards, arguments echoed by several other authors in the volume. The first is that nations may legitimately have different ideas about what is a reasonable standard. ... Moreover, even nations that share the same values will typically choose different standards if they have different incomes: advanced-country standards for environmental quality and labor relations may look like expensive luxuries to a very poor nation. Second, to the extent that nations for whatever reason choose different environmental standards, this difference, like any difference in preferences, actually offers not a reason to shun international trade but an extra opportunity to gain from such trade. It is very difficult to be more explicit about this without being misrepresented as an enemy of the environment...

The ... argument against harmonization of standards, then, is completely consistent and persuasive. And yet it is also somehow unsatisfying. Perhaps the problem is that we know all too well how little success economists have had in convincing policymakers of the case for unilateral free trade. Why, then, should we imagine that restating that case yet again will be an effective argument against the advocates of international harmonization of standards?

Confronted with the failure of the public to buy the classical case for free trade, and unwilling simply to preach the truth to each other, trade economists have traditionally followed one of two paths. Some try to give the skeptics the benefit of the doubt, attempting to find coherent models that make sense of their concerns. Others try to make sense not of the skeptics' ideas but their motives, attempting to seek guidance from models of political economy. The same two paths are followed in these volumes, with several papers following each approach.

Second-best considerations and the "race to the bottom"

The general theory of the second best tells us that if incentives are distorted in some markets, and for some reason these distortions cannot be directly addressed, policies in other markets should in principle take the distortions into account. ...

There is a long history of protectionist arguments along second-best lines. ... Here's an easy one: suppose that an industry generates negative environmental externalities that are not properly priced, and that international trade leads to an expansion of that industry in your country. Then that trade may indeed reduce national welfare... However, the advocates of international environmental and labor standards seem to be offering a more subtle argument. They seem to be claiming that an environmental (or labor) policy that ... would raise world welfare if implemented by all countries simultaneously - will reduce national welfare if implemented unilaterally. Thus the independent actions of national governments in the absence of international standards on these issues can lead to a "race to the bottom", with global standards far too lax. ...

[W]hile it is possible to devise second-best models that offer some justification for demands for harmonization of standards, these models ... do not seem particularly convincing. ...

So it is ... important to try to understand the political impulse behind demands for harmonization, and in particular to ask whether the political economy of standard-setting offers some indirect rationale for insisting on harmonization of such standards.

The political economy of standards

Consider ... a single industry ... in which a country is considering imposing a new environmental or labor regulation that will raise production costs. ...[I]f the costs of the regulation are less than the social costs imposed by the industry in its absence, then it is worth doing regardless of whether other countries follow suit. But the distribution of gains between producers and consumers does depend on whether the action is unilateral or coordinated. If one country imposes a costly regulation while others do not, the world price will remain unchanged and all of the burden will fall on producers; if many countries impose the regulation, world prices will rise and some of the burden will be shifted to consumers.

So what? Well, it is a fact of life, presumably rooted in the public-goods character of political action, that trade policy tends to place a much higher weight on producers than on consumers. So even though the national welfare case for the regulation is not weakened at all by the fact that the good is traded, the practical political calculus of getting the regulation implemented could quite possibly depend on whether other countries agree to do the same. ...

While one cannot dismiss such political-economy arguments as foolish, however, the problem is to know where to stop. Here is where it would have been useful to hear from some political scientists, who might be able to tell us more about when international negotiations over standards are likely to improve domestic policies, and when they are likely simply to serve as a cover for protectionist motives. ...

Standards and the rule of law

Economists pronounce on legal matters at their peril... Let me therefore tread cautiously in interpreting the arguments here. As I understand it, the problem involved in defining the limits of fair trade is not too different from that of defining the limits of free speech. Take it as a given that countries can do things that are perceived to be economically harmful to other countries... Which of these things can realistically be prohibited, and which should be tolerated? The answer is a matter of degree. The fellow at the next table who insists on talking loudly to his partner about marketing is annoying, but one cannot reasonably ask the law to do anything about him; the person who shouts "Fire" in a crowded theater is something else again.

Where does one draw the line in international economic relations? The prevailing principle of international law derives from the 17th-century Peace of Westphalia, which ended the Thirty Years' War by establishing the rule that states may do whatever they like (such as imposing the sovereign's religion) within their borders - only external relations are the proper concern of the international community. By this principle labor law, or environmental policies that do not spill across borders, should be off limits.

Now in practice we do not always honor the principle of the hard-shell Westphalian state. We are sometimes willing to impose sanctions or even invade to protect human rights. ... But while borders are fuzzier in legal practice than they are on a map, the basic structure of trade negotiations is still basically Westphalian. The demand for harmonization of standards is, in effect, a demand that this should change.

We have seen that the strictly economic case for that demand is fairly weak, but there may be a stronger case on grounds of political economy. But what do the legal experts say? The general answer, as I understand it, is that they don't think it is a good idea. A lucid chapter by Frieder Rousseler grants that the political argument for harmonization has some force, but concludes that to give in to it would open up too wide a range of potential complaints, much the same as would happen if I were allowed to sue people whose words annoy rather than actually slander me...

To an economist, at least, the legal case here seems fairly similar to the economic case for trade negotiations. We have a purist principle: unilateral free trade, the Westphalian state. We recognize based on experience that it is useful to compromise that principle a bit, so that we work with mercantilists rather than simply castigating them and allow a bit of international meddling in internal affairs. But while a bit of pragmatism is allowed, the principle remains there; and it is not a good idea to stray too far. On the evidence of these volumes, then, the demand for harmonization is by and large ill-founded both in economics and in law; realistic political economy requires that we give it some credence, but not too much. Unfortunately, that will surely not make the issue go away...

Posted by Mark Thoma on November 20, 2006 at 12:15 AM in Economics, International Trade, Policy, Regulation | Submit to Digg | Add to Del.icio.us | Reddit This | Permalink

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Comments

I think we have to implement, if not labor & environmental standards in agreements, at least labor & environmental standards for who we trade with. If just for political sake. "Fair Trade" can exist but it's such a vague term, including those who really do wish to implement a more regulated & standardized trade program, and those for whom "Fair Trade" is but a rallying cry for those who will never make peace with any agreement.

A simple procedural vote to establish normal trade relations with Vietnam went down to defeat, after a chorus of Democratic "Yes's" melted into "No's" after the mafia of Organized Labor started twisting their arms.

I cruised by the AFL-CIO website to peruse some of their statements on the various trade agreements; from the very unpopular CAFTA & OFTA, to the Chile & Singapore agreements which had broad bi-partisan support, to the Australia & Bahrain agreements that had more Democrats voting for them than against them, and I realized that Organized Labor Unions are never going to see a Trade Agreement they'll like.

And there in lies the dilemma; we have to tease out those elements who really to wish to achieve the public & common good of a real Fair Trade system, from those trade reactionaries who propose it as an alternative system that will most likely never be met to their specifications. The AFL-CIO should not be dictating our trade policy.

Posted by: DRR | Nov 19, 2006 11:00:19 PM

DRR;

The AFL-CIO might not be so oppositional if the negative effect of trade agreements didn't fall disproportionally on their members.
If company directors/ executives and stockholders had to share an equal amount of distress, then the situation might be different.
But executives don't lose their jobs when outsourcing occurs and stockholders don't care where the profits come as long as they keep coming.

Posted by: evagrius | Nov 20, 2006 7:42:26 AM

Nearly 10 years old: I wonder if Krugman would say the same today? I haven't seen him write much on the subject in a few years, which is odd given his expertise.

Posted by: tom s. | Nov 20, 2006 8:06:59 AM

evagrius,

The AFL-CIO's opposition to trade agreements goes well beyond the scope of simple job loss. In fact, some of their most intense reaction has been toward trade agreements either with tiny nations or agreements more about liberalizing capital flows than trade (CAFTA) both of which were expected to have a miniscule if any effect on U.S. employment in tradeables.

The most laughable opposition came in the context of the U.S. Bahrain agreement (which a majority of Democrats voted for) wherein during their testimony they conceded it would have little effect on American workers, but opposed it anyway on the grounds that it might theoretically increase the trade deficit & agreements such as it in general set bad precedent.

Like I said, the AFL-CIO should not be dictating our trade policy. Their interests, however much they may conincide with others' at certain times, are different than the common good of American interests.

Posted by: DRR | Nov 20, 2006 8:09:23 AM

DRR;

Then one has to inquire why they do have that opposition. Is it just knee-jerk opposition or does it have deeper causes?
I still think it's because those who pay the price are not the ones who benefit.
Even if it, on the surface, doesn't seem to have any effect, there's a distrust now that's the result of too many bad deals having taken place.

I don't think the AFL-CIO dictates U.S. trade policy. They just have a loud voice.

Posted by: evagrius | Nov 20, 2006 8:44:59 AM

Should the U.S. insist upon the recognition of environmental and labor standards in other countries in order to trade, it would also have to accept the same criteria in kind. The Japanese stricter regimen on mad cow disease and the European refusal to accept genetically modified foods being the first examples I can think of.

Of course, many would suggest that these are primarily false objections brought up to restrict trade: but that's the suggestion made here about labor and environmental standards as well.

What's sauce for the goose is sauce for the gander.

Posted by: Richard | Nov 20, 2006 8:49:03 AM

'Scuse me while I do some long over due pruning:

And there in lies the dilemma [ do we know how to use this word? Better stick with "problem" or words you can wield]; we have to tease out those elements [pick, like a Sec of Labor?] who really do wish to achieve the public & common good of a real Fair Trade system [doesn't sound like these elements are going to be 'common' does it?], from those trade reactionaries [bad, prima facie, BAD people]who propose it as an alternative system that will most likely never be met to their specifications[BAD and hoplessly impractical guys]. The AFL-CIO [The BAD GUYS ] should not be dictating our trade policy.

Wake up DDR, those 12M illegals in this country are not card carrying members of the AFL-CIO. They are a testament to how anemic this AFL-CIO outfit is.

This exclusion of participants to politically aligned voices,(the "teasing out" process DDR mentions) is the core of the corruption that has been the hallmark of this administration.
Get it straight from the horse's mouth (former Sec Treasurer O'Neill's) 'Price of Loyalty' to see that credible public policy development needs to hear more than 1 voice. [You figure I was too dictatorial in this view? You figure I should have consulted with the authorities on what is real, good, or fair before submitting my opinion? I'm counting on you to tease this out with me DDR.]

Posted by: calmo | Nov 20, 2006 9:00:23 AM

...international trade is really just a production technique, a way to produce importables indirectly by first producing exportables, then exchanging them.

But, but, but... that is not our current situation at all!

We are exchanging DEBT for importables.

This is exactly why we are in terra incognita.

I doubt VERY much Krugman would apply the above arguments to the current situation, because of this fact!

And of course the (political economic) reason we are in this situation is Asian mercantile currency policy, and the fact that if you push the labor standards low enough, advantage becomes absolute.

Posted by: dissent | Nov 20, 2006 9:07:51 AM