Wednesday, April 19, 2006

Protectionism by any other name still stinks

The error of protectionist economics
Protectionism is for losers
The free market lets the best come out on top
If only protectionists would put all that effort into improving themselves

Protectionism only hinders an economy, but its proponents insist it's necessary to "save domestic jobs." In fact, as we saw with President Bush's steel tariffs, protectionism destroys more jobs than it saves.

Sometimes protectionism comes disguised as an appeal for economic stability, like right now in Chile. Copper prices have been rising dramatically, especially in the last year, which has greatly benefited Chile, the world's biggest copper exporter. The demand has strengthened its peso against many currencies, including the U.S. dollar, because foreigners must exchange their currencies for pesos with which to buy Chilean copper. Exporters of agriculture are very worried, however, because a stronger domestic currency makes exports more expensive for foreigners. They want Chile's central bank to weaken the peso, which will benefit them but harm everyone who buys imports -- in other words, protectionism. My BS sensor kept going off as I read this:
Chile has an enviable dilemma: too much money

SANTIAGO, Chile (Reuters) - Chile's new President Michelle Bachelet is facing her first big political test, one some might envy: too much money from the country's rich copper exports.

Opposition leaders, wine makers and fruit growers are calling on Bachelet to stem a flood of mining dollars that could spell disaster for many exporters, Chile's economic motor, by strengthening the local currency too much....

"We can't just sit around and wait for a disaster to occur, which is going to happen if our agricultural sector continues to be hit by this," Sen. Juan Antonio Coloma, of the opposition right-wing Independent Democratic Union, told Reuters.

Chile, a country of 16 million people and Latin America's star economy, is the biggest world producer of copper, whose price has shot sky high due to heavy Chinese demand for material for buildings and power plants.

Zooming copper income has inundated Chile with greenbacks, making the local peso currency appreciate and handing the government fat budget surpluses and a chance to pay down debt.

That's great for consumers snatching up cheap imported electronics but the strong local currency spells disaster for exporters of wine, table grapes, berries and salmon whose dollar-denominated revenues are worth less and less in pesos.

Wine makers have put the brakes on investment and the billion dollar table-grape industry says thousands of jobs are threatened and that growers will lose more than $1,000 per hectare (2.5 acres) of grapes this year as the peso nears six-year highs.

"We're seeing a total lack of sensitivity by the economic authorities... I don't believe they have any interest in taking more drastic measures to correct the problem," Luis Schmidt, president of the Federation of Fruit Producers, told local media.

Sen. Coloma said the government should get the peso under control by holding copper dollars in offshore investments so they don't enter the country, and by letting let Chile's private pension fund system invest more outside the country.

The government and the central bank are being very cautious about intervening in the foreign exchange market. That is typical of austere, fiscally conservative Chile, which has a law that forces the government to spend in bad times to stimulate the economy and save in boom times to control inflation.

Bachelet says she will not yield to the temptation to go on a spending binge, but she has not said what she will do about the strong peso....

Juan Carlos Sepulveda, another fruit grower leader, said the government must look after the country's 13,800 fresh fruit producers, who provide 420,000 direct jobs compared with 50,000 in mining and whose exports were worth $2 billion last year....

Chileans say the government should spend some of the windfall on education or technological development yet are wary wanton spending stimulating inflation....
Talk about junk economics! First, how can a country have too much money? In this case, it's real wealth, not just more paper currency by the central bank. As we'll see, the problem isn't that Chile is earning too much money from exporting copper -- it's that the agricultural sector is jealous, since it's being left behind due to its own uncompetitiveness.

Second, Chile's government has a law requiring it to spend to stimulate the economy? That's not "fiscally conservative" -- that's Keynesian bunk! What is also bunk is the notion of government running surpluses during good times so it doesn't cause inflation, because its spending will increase the demand for (and hence prices of) goods and services. As Don Luskin so well put it:
But more people wanting wood and cement isn't inflation — it's just supply and demand. Inflation is when the Fed prints too much money, and the price of goods denominated in that debased currency rises in response. But that's not the way some of the econometric gurus at the Fed see it. They believe that rising consumer demand causes inflation. That means they believe that prosperity causes inflation. They believe that jobs cause inflation.
The main theme of the news story, however, is that the protectionists don't give a damn about anyone else, only their own jobs. This is true whether they're the heads of agricultural "associations" (i.e. union bosses) or opposition leaders looking for a major issue on which to criticize President Bachelet (like U.S. Democrats who suddenly became fiscal conservatives). When they talk about saving jobs, they never admit the flip side that imports will become more expensive for everyone else.

A strong peso supposedly threatens the jobs of 420,000 Chileans in fresh fruit production, and there are only 50,000 Chileans in mining. Very well, let's make this a matter of pure numbers. Chile's fresh fruit exports may have been $2 billion last year, but its copper exports for just the first 11 months of 2005 were worth $15.55 billion. In fact, its March 2006 copper exports alone were worth over U.S. $2.75 billion. So what will the Chilean government do, save 420,000 jobs at the expense of 50,000 others, though the smaller group produces over eight times the wealth? Actually, Chile's top politicians probably will do just that. After all, better to lose 50,000 votes than 420,000.

Chile's copper exports grow despite the strong peso. If copper sells for $2 per pound on the New York Mercantile Exchange, and the peso strengthens from, say, 515 to 500 vis-à-vis the U.S. dollar, then Chilean exporters earn fewer pesos. But the global demand for copper has more than offset that. The same is not true for Chilean wines or fruit: when those get expensive, people turn to plentiful substitutes like Argentinian or even Australian wines, and fruit from other South American nations. At the present time, Chile's copper industry happens to produce something that's more profitable and in greater demand. So why should the less-competitive agricultural producers be entitled to "relief," given to them by government, and at the expense of everyone else? Because the nature of capitalism rewards and promotes success, and, to paraphrase what Neal Boortz said at last week's FairTax debate (which I haven't blogged about yet), government punishes the successful when it assumes redistributive powers.

A scary thought is that Chile's government might pull a Franklin Delano Roosevelt and start paying subsidies to the agricultural sector. The budget surpluses would make it easy to justify this, or perhaps the government will levy extra taxes on the copper industry (the old cry of "level the playing field"). Judging by American history, the subsidies would probably be impossible to eliminate, even in times of large budget deficits.

Should we have enacted heavy taxes on the first automobiles, to protect buggy manufacturers, horse breeders and whip-makers? Or have we fallen so far into the absurd trap of protectionism that we're ready to believe the lobbyists, who claim they only want to "save hard-working people's jobs"? Had Edison invented his light bulb under today's circumstances, candlemakers would have gotten the EPA to pass restrictions hindering Edison but not themselves, like requiring proof that the emitted radiation would not be harmful. It never takes an outright ban for a protectionism-seeking industry to win, only enough hurdles for everyone else so that everyone else finds it too expensive to do business.

I personally think Chile's government and central bank should take advantage of the strong peso by paying down debt while it can do so cheaply. It could also buy U.S. Treasury securities (also made cheaper by the strong peso) for its pension system. What it shouldn't do is devalue the peso just for the sake of agricultural interests. The strong peso's big benefit that it makes imports cheaper for Chileans, such as consumer goods, and also high-end manufacturing and technology for industry. Chileans can afford more of these goods because of the income from exporting copper, allowing them to enjoy goods from the world's wealthiest nations. Why is this a problem?

Well, it's a problem for 420,000 agricultural workers, who generate less than one-eighth the wealth that a mere 50,000 in the mining industry do. So they call upon government to protect them at everyone else's expense, not realizing that the mountain will fall upon them too. Don Luskin recently cited the Smoot-Hawley Tariff's role in the Great Depression. Though I first blame the Federal Reserve's sudden tightening of monetary policy, I've cited the Hawley-Smoot Tariff as a big factor in worsening things. Domestic producers got their wish for heavy tariffs...and the result was an economic crash that affected them as much as everyone else.

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Blogger septagon said...

Knee-jerk leftism strikes again in South America. The coercive power of government is once again called upon to save a small segment of society from the vagaries of the “free market” at the expense of the whole society. The agriculture sector is losing money for a reason. They have more competition in the world and they are becoming a higher priced producer. They have to lower their price to maintain their position in the market which will cause their profits to drop. This should not be a sign that this industry should be protected but it is rather a signal from the market that resources should be moved to other more productive areas. Chile is losing their comparative advantage in the agricultural business while that have somewhat of an absolute advantage in the copper business.

The agricultural business will have to become more productive. This will require shedding of jobs and more capital investment to become competitive again, but the good news is that the copper industry is bringing the needed money to make that happen. The copper industry CEO’s will not stuff their mattresses with their profits. At some point marginal return on the next peso in the copper mining business will not garner as big a return if they invest it elsewhere. This will provide the capital to make the agriculture business more profitable as well as the seed money to start new businesses in Chile. This will begin to absorb the workers that the agriculture business will shed as they go through the creative destruction of responding to the market.

In the end to whole society benefits with a more vibrant economy that has a more complex capital structure. Everybody becomes richer because the standard of living has increased. Unions, consortiums, guilds, communes, and cartels need to maintain the status quo to maintain their power and influence. The only way they can succeed in the short term against the market forces is by employing the power of government to maintain the status quo. In the end, it is only an illusion, while the agricultural sector maintains their wealth the society as a whole gets poorer.

FDR pioneered this kind of identity politics in the 1930’s. His agricultural policies to maintain prices damaged society as a whole while he was trying to bribe a constituency. We still suffer from those policies today in the form of the second largest department in the Executive branch. The Agriculture Department is second in size only to the Defense department even though only two percent of the population is engaged in farming. We have yet to declare the 1933 Farming emergency over. We still suffer from the 1942 Wickard v Filburn decision which essentially tore out the Commerce clause from the US Constitution.

FDR blames the market in his March 1933 first inaugural address,

“Primarily, this is because the rulers of the exchange of mankind’s goods have failed through their own stubbornness and their own incompetence, have admitted their failure and abdicated. Practices of the unscrupulous money changers stand indicted in the court of public opinion, rejected by the hearts and minds of men.”

He continues later to extend the biblical metaphor of the temple moneychangers with the market

“The money changers have fled from their high seats in the temple of our civilization. We may now restore that temple to the ancient truths. The measure of the restoration lies in the extent to which we apply social values more noble than mere monetary profit”

And if you had any doubt regarding FDR’s socialistic leanings he ends with

“If I read the temper of our people correctly, we now realize as we never before, our interdependence on each other; that we cannot merely take, but we must give as well; that if we are to go forward we must move as a trained and loyal army willing to sacrifice for the good of a common discipline, because, without such discipline, no progress is made, no leadership becomes effective.”

Thursday, April 20, 2006 11:07:00 PM  

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