CIAO DATE: 07/05

The Payoff from Globalization

The battle over the Central American Free Trade Agreement (CAFTA) promises a reprise of familiar themes. While contemporary commentators may connect their arguments to NAFTA, in fact the "modern" debate over trade barriers can be traced back to British Corn Laws. Enacted to protect land barons, the Corn Laws were finally repealed in 1846 to make way for what Martin Wolf has called the "first age of globalization."

As in late 19th century Britain, US free traders generally held the upper hand in the second half of the 20th century. Every president since Franklin Roosevelt has supported trade liberalization. After the Second World War, the United States led an international effort, anchored in the GATT and the OECD, to liberalize world trade and investment. The United States lowered its simple average tariff rate from 40 percent in 1946 to 4 percent today, and other industrial nations followed a similar track. After a steady half-century of liberalization it is fair to ask, what do Americans have to show?

As it turns out, quite a lot. Using four different methods, we estimate that the combination of shrinking distances-thanks to container ships, telecommunications, and other new technologies-coupled with lower political barriers to international trade and investment generated an increase in US income of roughly $1 trillion annually (measured in 2003 dollars), or about 10 percent of GDP. Put another way, after a half-century of shrinking distances and commercial liberalization, the average American household enjoys an income gain of about $10,000 per year.

Americans do not receive this money as a check marked "payoff from globalization." Too bad. Instead, the payoff comes through the same routes as other economic gains: lower prices at the checkout counter, more product choices (compare the telephones available now against the standard black model of 1980), and fatter paychecks. Unfortunately for the cause of continued liberalization, the delivery of gains by familiar channels serves to hide the contribution of globalization.

Nevertheless, each of our methods calculates that the payoff is very large. First, we parse international data that correlate the expansion of international trade with economic growth. Applied to the United States, the increase in US income sparked by more intense trade with the world equates to 13.2 percent of GDP. In the second method, we calculate how lower tariffs stimulate US productivity through competitive forces and bring greater product choices to American producers and consumers. The estimate for these benefits comes to 8.6 percent of GDP. Third, we draw on a computable general equilibrium model to suggest how today's economy would react to the Smoot-Hawley trading environment of the 1930s. That exercise gives an estimate of 7.3 percent of GDP. Finally, we calculate the productivity benefits arising from the use of imported components and find a benefit of 9.6 percent of GDP. While none of the four estimates is perfect, the broad result is clear: The benefits of trade and investment liberalization are positive and large.

Given the large gains from past liberalization, and today's low tariffs and modest investment barriers, skeptical commentators might say, "Been there, done that." But our estimates of future policy liberalization alone (excluding likely benefits from better communications and transportation) indicate that a move from today's commercial environment to global free trade and investment could produce an additional $500 billion in US income annually, or roughly $5,000 per household each year. Much of the benefit would come from sectors of the economy that were essentially left out during earlier rounds of liberalization: services, agriculture, transportation, and trade with developing countries. No single trade or investment agreement can confer the entire range of benefits on Americans. Instead, the prize requires steady liberalization-through agreements such as CAFTA and the Doha Round of the World Trade Organization, each providing a stepping-stone toward the eventual goal.

Despite the huge payoff to America, political support for trade liberalization has never come easily. Poli Sci 101 gives the explanation: Large gains are widely dispersed, and much smaller private losses are highly concentrated. Surveying several estimates, we arrive at a middle-of-the-road figure of roughly 225,000 trade-related job losses per year. Most dislocated workers find new jobs within six months, many far sooner. However, some are unemployed for an extended period. Even workers who are reemployed may face significant pay cuts. Taking these features into account, we estimate that the lifetime costs of a year's worth of trade-related job losses is roughly $54 billion, about $240,000 per affected worker. This is a huge loss on a personal level, but only about 5 percent of the annual national gains from liberalization. While we have not attempted to measure the adjustment costs to landowners and shareholders, the strident opposition to CAFTA from the likes of the Fanjul family (sugar barons) and Roger Milliken (textile baron) reveals that they have very sensitive pocketbooks.

America's national interest will best be served by staying the course on free trade and investment. At the same time, it is morally (and politically) imperative to address the private losses incurred by dislocated workers; it may also be politically necessary to give a nod to sugar and textile barons. The federal government currently spends only $2 billion per year helping trade-dislocated workers. Given the enormous dividends from international trade, more can and should be done for those forced to bear the burden of economic adjustment.