April 15, 2005
The Perils of Protectionism
By Lawrence Kudlow

When the unexpectedly wide February trade-gap report came out this week, it wasn’t the dollar that got hit -- the dollar is regulated by the Fed’s money-supply policies. It was the stock market that got slammed as the threat of anti-growth protectionism loomed even larger.

Tariffs and trade barriers are tax hikes on international trade flows. They are anti-growth. They impoverish consumers and small businesses that prefer to choose the best quality goods from around the world at the lowest prices. Government tariffs interfere with economic freedom by reducing choices and lowering prosperity.

The U.S. is already embroiled in a number of anti-dumping trade disputes with the European Union and Canada. And if American textile and clothing manufacturers get their way, imports from China will be limited next. As per the Wall Street Journal, textile imports from the rest of the world have temporarily fallen as China textile exports have temporarily surged. But this is all about choice. You can’t blame China and you can’t blame consumers.

But you can blame U.S. textile makers. These businesses have been protected for nearly 30 years but they still can’t seem to compete. Why should consumers be denied choice simply because a handful of companies can’t cut the mustard?

Free trade is a cornerstone of economic growth and prosperity. Lower tariffs have the same positive economic impact as lower tax rates, while the separation of government controls and economic free-enterprise improves choice and efficiency. Blocking choice is only detrimental to growth. Tariffs lower consumer purchasing power, living standards, and also business profits -- the backbone of the economy.

The high tide of recent global trade liberalization occurred under Presidents Reagan, Papa Bush, and Clinton. Despite chronic trade deficits, total trade by the U.S. with the rest of the world (imports and exports) surged by more than $2 trillion during the 1980s and 1990s. Meanwhile, real economic growth averaged nearly 3.5 percent, net job increases totaled roughly 36 million, and the average unemployment rate was only about 5.7 percent. The domestic economy prospered as Americans freely bought and sold.

The benefits of free trade also extend to greater competition and higher productivity, both of which contribute to economic growth. In the 19th century classical liberal economic model championed by economic philosophers Friedrich Hayek, Ludwig von Mises, and Joseph Schumpeter, along with Victorian politicians William E. Gladstone and Winston Churchill, free trade not only benefited economic growth, it contributed to world peace.

This point is emphasized by historian Jim Powell in his latest book, "Wilson's War." The dawning of the world free-trade era was associated with unprecedented European peace. Free trade helped all political parties and all world nations. It was not zero sum. It was -- and is -- win-win.

However, when politicians and economists turned toward protectionism in the early part of the 20th century, increased hostilities, nationalism, and ultimately two world wars followed. The infamous Smoot-Hawley tariff in the U.S., and the worldwide retaliation against it, was a precursor to depression, foreign totalitarianism, and world war.

Powell makes this relationship very clear, although nativist politicians will remain blind to it. Instead, they'll continue to harp over trade deficits and clamor for protectionism "to create jobs."

That's a dangerous course. Today, if the U.S. is trying to make all of Europe an ally in the campaign to defeat terrorism by spreading freedom and democracy worldwide, what sense does it make to deepen hostilities through a growing number of trade conflicts? The same question can be applied to China.

Proliferating protectionism expands the scope of government intervention in ways that are inimical to economic growth. It also sows bad feelings among nations who mistakenly believe that trade wars in the pursuit of domestic treasures can do good.

The U.S. trade gap isn't growing larger because of free trade. It's swelling because some of our biggest export customers, namely Western Europe and Japan, over-tax and over-regulate their economies. Consequently, stagnant growth abroad contrasts with strong growth at home. So, while the healthy U.S. economy is exporting at an impressive 9 percent pace, we import at a much higher 17 percent pace. In this sense the U.S. trade gap is a sign of economic strength. Because of our economic superiority, foreign investments flow into the U.S. in order to reap higher capital returns. This funds the current-account deficit that the media love to discuss.

The solution to this trade imbalance is not more protectionism. Instead, global trade should be liberalized for the economic benefit of all nations. Meanwhile, our friends in Japan and Europe should undertake pro-growth tax and regulatory reforms that will liberalize their economies. This, not protectionism, will reduce global trade imbalances. It may also make for a more united front in the life-and-death struggle to win the war on terror.

Lawrence Kudlow is a former Reagan economic advisor, a syndicated columnist, and the co-host of CNBC's Kudlow & Company.

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