June 13, 2018

We have an effective competition policy. It’s called free trade.



It is not impossible that there may be persons disposed to look with a jealous eye on the introduction of foreign capital, as if it were an instrument to deprive our own citizens of the profits of our own industry; but, perhaps, there never could be a more unreasonable jealousy. Instead of being viewed as a rival, it ought to be considered as a most valuable auxiliary, conducing to put in motion a greater quantity of productive labor, and a greater portion of useful enterprise, than could exist without it.

 

-Alexander Hamilton, Report on Manufactures, 1791

We recently learned that NAFTA negotiations between the United States and Canada broke down after Vice President Mike Pence demanded a five year sunset clause — a no-go for Canada for the obvious reason that sunsetting destroys the policy certainty required for cross-border investment.

In response, Matt Stoller of the Open Markets Institute had this to say:

While calling Canada’s Prime Minister dumb and a goon is not what anyone would call a coherent argument, at least Stoller understands the consequences of his view:

The statement is bewildering given that Stoller is best known for his writing on monopoly power and weak U.S. competition policy. Yet if he truly cared about eroding monopoly power, it seems to me that liberalizing trade and foreign investment would be, while not a replacement for anti-trust enforcement, a top priority nevertheless. That’s why they’re called open markets in the first place.

Trade agreements increase domestic competition in two main ways: By directly increasing competition among firms for investment and customers; and by leveraging outside political pressure for domestic reforms. The impact of trade on competition can be quantified in terms of falling markups, i.e., the price firms are able to charge above marginal cost. According to one estimate from a 2015 article in the American Economic Review using firm-level Taiwanese data, “…opening up to trade strongly increases competition and reduces markup distortions by up to one-half…”. Foreign investment is crucial to competition because foreign owned firms represent new entrants in local markets, above and beyond the competition provided by imports of tradable goods.

Among NAFTA countries, the effect of trade protections on monopoly power is easily seen within one of Canada’s strongest cartels, the “supply managed” dairy industry. Supply management is a euphemism for the coordinated restriction of dairy output, leading to a significant markup on Canadian dairy products relative to those made in the United States. The system is propped up by exorbitant tariffs on competing imports, so every time Canada enters a trade negotiation, its dairy industry is forced to fight tooth and nail to limit concessions. Absent the exogenous pressure provided by such trade talks, it’s hard to imagine Canada’s dairy cartel ever being broken — Ontario’s farming regions are simply too powerful. If Trump gets his way on this particular issue, it will be a massive boon for Canadian consumers and the competitiveness of the North American dairy market. A similar trade-induced process facilitated the slow reform of Japanese cartels, or keiretsu, which have faced continual pressure from foreign investors and, more recently, from American TPP negotiators.

Conversely, airlines have witnessed significant consolidation over the decades, as Stoller himself has noted. But at the same time, foreign investment in the industry is severely curtailed by a prohibition on foreign ownership of U.S. airlines, effectively sheltering the industry from international competitors. Similar restrictions on foreign investment pervade other consolidated industries, as well, from shipping to communications. Mileage varies on the “national security” arguments for limiting foreign investment in these particular industries, but no one disputes that such restrictions reduce competition.

Elsewhere, Stoller seems to see government-protected cartels as benign examples of “the ability of democratic forces to arrange labor markets.” This raises the question of what competitive markets even mean in Stoller’s worldview. Rather than removing barriers to entry, Stoller seems to prefer the idea of entrenching monopolistic industries with “democratic” regulation. Yet it should go without saying that protectionism combined with syndicalism (democratic or worker control of industries) leaves a lot to be desired.

In the background of the Trump-Stoller trade agenda is the notion that free-trade orthodoxy is based on a lie. There’s a grain of truth to that. The growth miracles in Japan, Korea, China and Taiwan relied on significant government intervention, particularly in areas like technology diffusion and export promotion. Yet far from eschewing foreign investment, the East Asian growth model thrived on it, drawing in Western capital and know-how that was lacking domestically. The mechanism for growth was not a simplistic mercantilism or trade protectionism, but rather an accelerated process of learning-by-doing enabled by technology transfers, and mediated by the intense discipline provided by international markets.

A Trump supporter once told me, echoing a common sentiment among paleocons and the alt-right, that his election was necessary to prevent the “Brazilification” of America. It’s thus with some irony that the Trump-Stoller trade agenda seems derived from the “import-substitution” model of industrialization that many Latin American countries adopted in the 20th century, often with their own disastrous dashes of “democratically arranged markets.”

While superficially similar to the East Asian approach, protecting domestic industries from imports and foreign ownership is not at all the same as pushing domestic industries to export. The key distinction lies in the boot-strapping power of foreign direct investment and international competition — a distinction which appears to have been lost on both the Trump administration and our competition policy expert du jour.