Power and Market: Government and the Economy

Tariffs and various forms of import quotas prohibit, partially or totally, geographical competition for various products. Domestic firms are granted a quasi monopoly and, generally, a monopoly price. Tariffs injure the consumers within the “protected” area, who are prevented from purchasing from more efficient competitors at a lower price. They also injure the more efficient foreign firms and the consumers of all areas, who are deprived of the advantages of geographic specialization. In a free market, the best resources will tend to be allocated to their most value-productive locations. Blocking interregional trade will force factors to obtain lower remuneration at less efficient and less value-productive tasks.

Economists have devoted a great deal of attention to the “theory of international trade”—attention far beyond its analytic importance. For, on the free market, there would be no separate theory of “international trade” at all—and the free market is the locus of the fundamental analytic problems. Analysis of interventionary situations consists simply in comparing their effects to what would have occurred on the free market. “Nations” may be important politically and culturally, but economically they appear only as a consequence of government intervention, either in the form of tariffs or other barriers to geographic trade, or as some form of monetary intervention.24

Tariffs have inspired a profusion of economic speculation and argument. The arguments for tariffs have one thing in common: they all attempt to prove that the consumers of the protected area are not exploited by the tariff. These attempts are all in vain. There are many arguments. Typical are worries about the continuance of an “unfavorable balance of trade.” But every individual decides on his purchases and therefore determines whether his balance should be “favorable” or “unfavorable”; “unfavorable” is a misleading term because any purchase is the action most favorable for the individual at the time. The same is therefore true for the consolidated balance of a region or a country. There can be no “unfavorable” balance of trade from a region unless the traders so will it, either by selling their gold reserve, or by borrowing from others (the loans being voluntarily granted by creditors).

The absurdity of the protariff arguments can be seen when we carry the idea of a tariff to its logical conclusion—let us say, the case of two individuals, Jones and Smith. This is a valid use of the reductio ad absurdum because the same qualitative effects take place when a tariff is levied on a whole nation as when it is levied on one or two people; the difference is merely one of degree.25 Suppose that Jones has a farm, “Jones’ Acres,” and Smith works for him. Having become steeped in protariff ideas, Jones exhorts Smith to “buy Jones’ Acres.” “Keep the money in Jones’ Acres,” “don’t be exploited by the flood of products from the cheap labor of foreigners outside Jones’ Acres,” and similar maxims become the watchword of the two men. To make sure that their aim is accomplished, Jones levies a 1,000-percent tariff on the imports of all goods and services from “abroad,” i.e., from outside the farm. As a result, Jones and Smith see their leisure, or “problems of unemployment,” disappear as they work from dawn to dusk trying to eke out the production of all the goods they desire. Many they cannot raise at all; others they can, given centuries of effort. It is true that they reap the promise of the protectionists: “self-sufficiency,” although the “sufficiency” is bare subsistence instead of a comfortable standard of living. Money is “kept at home,” and they can pay each other very high nominal wages and prices, but the men find that the real value of their wages, in terms of goods, plummets drastically.

Truly we are now back in the situation of the isolated or barter economies of Crusoe and Friday. And that is effectively what the tariff principle amounts to. This principle is an attack on the market, and its logical goal is the self-sufficiency of individual producers; it is a goal that, if realized, would spell poverty for all, and death for most, of the present world population. It would be a regression from civilization to barbarism. A mild tariff over a wider area is perhaps only a push in that direction, but it is a push, and the arguments used to justify the tariff apply equally well to a return to the “self-sufficiency” of the jungle.26 ,27

One of the keenest parts of Henry George’s analysis of the protective tariff is his discussion of the term “protection”:

Protection implies prevention. ... What is it that protection by tariff prevents? It is trade. ... But trade, from which “protection” essays to preserve and defend us, is not, like flood, earthquake, or tornado, something that comes without human agency. Trade implies human action. There can be no need of preserving from or defending against trade, unless there are men who want to trade and try to trade. Who, then, are the men against whose efforts to trade “protection” preserves and defends us? ... the desire of one party, however strong it may be, cannot of itself bring about trade. To every trade there must be two parties who actually desire to trade, and whose actions are reciprocal. No one can buy unless he finds someone willing to sell; and no one can sell unless there is some other one willing to buy. If Americans did not want to buy foreign goods, foreign goods could not be sold here even if there were no tariff. The efficient cause of the trade which our tariff aims to prevent is the desire of Americans to buy foreign goods, not the desire of foreign producers to sell them. ... It is not from foreigners that protection preserves and defends us; it is from ourselves.28

Ironically, the long-run exploitative possibilities of the protective tariff are far less than those that arise from other forms of monopoly grant. For only firms within an area are protected; yet anyone is permitted to establish a firm there—even foreigners. As a result, other firms, from within and without the area, will flock into the protected industry and the protected area, until finally the monopoly gain disappears, although misallocation of production and injury to consumers remain. In the long run, therefore, a tariff per se does not establish a lasting benefit even for the immediate beneficiaries.

Many writers and economists, otherwise in favor of free trade, have conceded the validity of the “infant industry argument” for a protective tariff. Few free-traders, in fact, have challenged the argument beyond warning that the tariff might be continued beyond the stage of “infancy” of the industry. This reply in effect concedes the validity of the “infant industry” argument. Aside from the utterly false and misleading biological analogy, which compares a newly established industry to a helpless new-born baby who needs protection, the substance of the argument has been stated by Taussig:

The argument is that while the price of the protected article is temporarily raised by the duty, eventually it is lowered. Competition sets in ... and brings a lower price in the end. ... This reduction in domestic price comes only with the lapse of time. At the outset the domestic producer has difficulties, and cannot meet the foreign competition. In the end he learns how to produce to best advantage, and then can bring the article to market as cheaply as the foreigner, even more cheaply.29

Thus, older competitors are alleged to possess historically acquired skill and capital that enable them to outcompete any new rivals. Wise protection of the government granted to the new firms, therefore, will, in the long run, promote rather than hinder competition.

The infant industry argument reverses the true conclusion from a correct premise. The fact that capital has already been sunk in older locations does, it is true, give the older firms an advantage, even if today, in the light of present knowledge and consumer wants, the investments would have been made in the new locations. But the point is that we must always work with a given situation, with the capital handed down to us by the investment of our ancestors. The fact that our ancestors made mistakes—from the point of view of our present superior knowledge—is unfortunate, but we must always do the best with what we have. We do not and never can begin investing from scratch; indeed, if we did, we should be in the situation of Robinson Crusoe, facing land again with our bare hands and no inherited equipment. Therefore, we must make use of the advantages given us by the sunk capital of the past. To subsidize new plants would be to injure consumers by depriving them of the advantages of historically given capital.

In fact, if long-run prospects in the new industry are so promising, why does not private enterprise, ever on the lookout for a profitable investment opportunity, enter the new field? Only because entrepreneurs realize that such investment would be uneconomic, i.e., it would waste capital, land, and labor that could otherwise be invested to satisfy more urgent desires of the consumers. As Mises says:

The truth is that the establishment of an infant industry is advantageous from the economic point of view only if the superiority of the new location is so momentous that it outweighs the disadvantages resulting from abandonment of nonconvertible and nontransferable capital goods invested in the older established plants. If this is the case, the new plants will be able to compete successfully with the old ones without any aid given by the government. If it is not the case, the protection granted to them is wasteful, even if it is only temporary and enables the new industry to hold its own at a later period. The tariff amounts virtually to a subsidy which the consumers are forced to pay as a compensation for the employment of scarce factors of production for the replacement of still utilizable capital goods to be scrapped and the withholding of these scarce factors from other employments in which they could render services valued higher by the consumers. ... In the absence of tariffs the migration of industries [to better locations] is postponed until the capital goods invested in the old plants are worn out or become obsolete by technological improvements which are so momentous as to necessitate their replacement by new equipment.30

Logically, the infant industry argument must be applied to interlocal and interregional trade as well as international. Failure to realize this is one of the reasons for the persistence of the argument. Logically extended, in fact, the argument would have to imply that it is impossible for any new firm to exist and grow against the competition of older firms, wherever their locations. New firms, after all, have their own peculiar advantage to offset that of existing sunken capital possessed by the old firms. New firms can begin afresh with the latest and most productive equipment as well as on the best locations. The advantages and disadvantages of a new firm must be weighed against each other by entrepreneurs in each case, to discover the most profitable, and therefore the most serviceable, course.31

• 24See Henry George, Protection or Free Trade (New York: Robert Schalkenbach Foundation, 1946), pp. 37–44. On free trade and protection, see Leland B. Yeager and David Tuerck, Trade Policy and The Price System (Scranton, Pa.: International Textbook Co., 1966).
• 25The impact of a tariff is clearly greater the smaller the geographic area of traders it covers. A tariff “protecting” the whole world would be meaningless, at least until other planets are brought within our trading market.
• 26The tariff advocates will not wish to push the argument to this length, since all parties clearly lose so drastically. With a milder tariff, on the other hand, the tariff-protected “oligopolists” may gain more (in the short run) from exploiting the domestic consumers than they lose from being consumers themselves.
• 27Our two-man example is similar to the illustration used in the keen critique of protection by Frederic Bastiat. See Bastiat, Economic Sophisms (Princeton, N.J.: D. Van Nostrand, 1964), pp. 242–50, 202–09. Also see the “Chinese Tale,” and the famous “Candlemakers’ Petition,” ibid., pp. 182–86, 56–60. Also see the critique of the tariff in George, Protection or Free Trade, pp. 51–54; and Arthur Latham Perry, Political Economy (New York: Charles Scribners’ Sons, 1892), pp. 509 ff.
• 28George, Protection or Free Trade, pp. 45–46. Also on free trade and protection, see C.F. Bastable, The Theory of International Trade (2nd ed.; London: Macmillan & Co., 1897), pp. 128–56; and Perry, Political Economy, pp. 461–533.
• 29F.W. Taussig, Principles of Economics (2nd ed.; New York: Macmillan & Co., 1916), p. 527.
• 30Mises, Human Action, p. 506.
• 31See also W.M. Curtiss, The Tariff Idea (Irvington-on-Hudson, N.Y.: Foundation for Economic Education, 1953), pp. 50–52.