06 March, 2020

The Cost of Comparative Advantage

The advocates of Free Trade deals between countries frequently cite the fact that more products are made available at a lower cost to consumers as proof that their idea makes economic sense. Their explanation of how this works rests on the idea of Comparative Advantage,[1] the idea that one country can produce a good at a lower opportunity cost than other countries. Based on this idea, if the industries in one country focus on those products where they have the lowest opportunity cost, and import products where they don't, this provides an abundance of lower priced goods for everyone. For the advocates of Free Trade, price [2] appears to be the ultimate test of what is economically good. They scoff at opponents and critics of Free Trade as if their criticisms of it are completely without merit. Even some economists who have dared to question Free Trade, still try to uphold Comparative Advantage as a reasonable idea.[3] The reality is that the Free Trade ideology ultimately rests on Comparative Advantage. Therefore, it is prudent to examine the criticisms of it to see if they do, in fact, merit consideration. I believe that history has proven that they do.

The United States of America used to have a much more robust manufacturing industry. Critics will immediately respond that there is actually a growing manufacturing base in the U.S.,[4] but let me explain what I mean. It is true that certain types of manufacturing are growing in the U.S. However, these are not the same types of manufacturing jobs as in the past. Historically, U.S. manufacturing employed all levels of workers. High skilled and high educated workers developed and designed products, but our manufacturing industries also employed the low to average educated who worked on the assembly lines and did those aspects of manufacturing work that did not require higher levels of education. Over the last thirty to forty years, we have increased the jobs requiring high levels of education and outsourced jobs for those with an average education.
“The mantra that we’ve lost good-paying jobs to China is exactly wrong,” said Michael Hicks, an economics professor at Ball State University who has studied manufacturing in Indiana. “We’ve lost the bad-paying jobs to China and gained good-paying jobs.”[5]
These "bad paying" jobs supported large numbers of middle class families across the country. The "good paying" jobs were precisely ones that those displaced by this shift were unqualified to get. Essentially, the U.S. manufacturing industry has said that, unless you can get a degree in science or engineering, don't bother applying to them for a job. The callous disregard of this large, middle class group of workers has caused economic and political tremors in the U.S. in recent years. Why were these hard working people turned out by their employers? The reason is Comparative Advantage. Our largest manufacturing employers are focusing only on those areas with the "lowest opportunity cost" to them. This is done without regard to what happens to their fellow citizens, and then they wonder why U.S. citizens don't have much loyalty to domestic products.

Industrial heavy hitters who were able to develop and grow during an age of protectionist tariffs, now demand Free Trade on the basis of Comparative Advantage. Tariffs used to provide jobs in the U.S. as foreign manufacturers would open factories in the U.S. to avoid paying them.[6] As the threat of tariffs disappeared, so did the jobs.
... "industries where the threat of tariff hikes declines the most experience greater employment loss due to suppressed job creation, exaggerated job destruction and a substitution away from low-skill workers."[7]
However, this issue goes beyond assembly line jobs. Comparative Advantage, and its necessary Free Trade deals have spread across all aspects of production in every country that has adopted this economic ideology. What happens, though, when the foreign supply lines are threatened? We have already written about how natural and economic disasters in other countries have impacted the availability of products of supposedly "American" manufacturers. The truth is that this is not as rare an occurrence as some may believe. It is easy to forget, though, when these amount to not much more than an inconvenience or an annoyance to us. For example, past flooding in China has resulted in shortages of computer parts for U.S. computer manufacturers. Because these types of events ended up being a temporary annoyance where people had to wait extra time for these parts, few seemed to really consider the greater implications of such a dependence. The fact that our supply chains have not significantly changed in the decades since those incidents shows that those who had enough foresight to raise an alarm were not taken seriously.

The reality is that the same warnings given about too much dependence on foreign manufacturers of critical technology apply to other critical areas. The same warnings have been raised about this type of dependence for things like medicines.[8] It does seem that a lot of these articles focus specifically on the dependence of Western countries on China. There are two reasons for this.

The first and most obvious reason is that China has become the biggest manufacturer of critical computer technology and medical supplies in the world. European and North American companies have outsourced the manufacture of these critical needs to China; a process that has been enabled by the cooperation of their governments. This is despite the fact that China is widely recognized by these governments as consistently violating basic human rights and having sub-standard working conditions that would not be accepted in their own countries, and these supposedly capitalist companies are moving their production to a socialist country. Some advocates of Free Trade say that China has moved to a more "corporatist" form of business model that is (by implication?) more compatible with capitalism. The reality is that their form of corporatism is a socialist economic model that was adopted by the Fascist and Nazi regimes as part of their socialist economic plans.

However, the warnings against this type of dependence was ignored and, with the unfortunate outbreak of the COVID-19 virus, we are once again having to deal with the reality of this issue. The realities in this case are the same. There are both annoyances as our supplies of non-critical products are delayed.[9] There are also more serious consequences as this circumstance has raised the possibility that critical drugs and medical supplies might also be at risk.[10] 

However, let's consider another serious implication of what Comparative Advantage has done to us. It appears that even some of the manufacturing requiring high skilled and highly educated workers have also been outsourced. We seem to forget just how much of our society has become dependent on computer technology. This goes beyond our government offices, our communications networks, and the systems that run our economic industry. The advanced weapons systems used by the defense forces of Western countries are also completely dependent on this technology.

Even though our economic powerhouses have viewed China as an "economic partner" for several decades, I find it hard to believe that the military and intelligence departments of Western countries look at China as much of a partner. However, those departments rely on computer technology made by the companies that do. As a result, our most advanced weapons and defense systems, as well as our communications networks,[11] are all dependent on advanced computer parts made by a potential adversary.  Is this a real threat?

In 2011, it was reported that the "Government Accountability Office found that counterfeit routers with high failure rates had been sold to the Navy, and that counterfeit microprocessors had been purchased by the U.S. Air Force for use on F-15 flight control computers."[12] A "scientist at Cambridge University in the United Kingdom claims to have developed a software program proving that China -- and anyone else -- can, and is, installing cyber backdoors on some of the world's most secure, 'military grade' microchips."[13]

You might think that this is a lot to blame on an idea like Comparative Advantage, but then you have to answer the question of why we no longer make these computer components for ourselves. The U.S. used computers designed and built in the U.S. to put men on the moon. This was not that long ago. Today our most advanced communications and defense systems are dependent on technology we might design, but no longer make. The same is true for medicines and medical supplies. We use computer components without even thinking about it, in our phones, in our cars, and in our home entertainment systems, and these components are all made by a foreign power that is philosophically opposed to the ideas that founded our societies. How did we get to such a place? We got there because our largest industries, and their partners in government, are believers in the theory of Comparative Advantage and have worked together to implement Free Trade agreements to make that theory a reality.

[1] https://www.economicshelp.org/blog/glossary/comparative-advantage/

[2] https://practicaldistributism.blogspot.com/2015/08/price.html

[3]  https://economistsview.typepad.com/timduy/2010/07/why-is-the-american-jobs-machine-broken.html

[4] https://www.theatlantic.com/business/archive/2017/01/america-is-still-making-things/512282/

[5] Ibid.

[6] https://www.cnbc.com/2015/02/05/the-rise-of-made-by-china-in-america.html

[7] Pierce, Justin R. and Schott, Peter K. "The Surprisingly Swift Decline of U.S. Manufacturing Employment". National Bureau of Economic Research, American Economic Review, Vol 106(7), Dec. 2012, Revised Jan. 2014

[8] https://www.americanthinker.com/articles/2019/01/exposing_the_risks_of_americas_dependence_on_china_for_medicine.html

[9] https://financemarkethouse.com/2020/02/18/apple-admits-the-coronavirus-will-cause-a-global-iphone-shortage/



[10] https://www.wired.com/story/the-coronavirus-is-a-threat-to-the-global-drug-supply/


[11] https://www.cnet.com/news/chinese-spy-chip-reportedly-found-in-server-at-major-us-telecom/



[12] http://www.allgov.com/news/us-and-the-world/counterfeit-computer-chips-from-china-compromised-us-military-equipment?news=843552

[13] https://www.military.com/defensetech/2012/05/30/smoking-gun-proof-that-military-chips-from-china-are-infected


Title photograph by Thorsten Lindner

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