Amherst College
Department of Economics
Economics 111 – Section 3
Fall 2012
Wednesday, September 5 Lecture: Why Is Free Trade So Controversial?
Economists generally support free trade: when polled, more than 90 percent of economists
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believe that trade restrictions reduce general economic welfare. During the last two decades,
American administrations have generally supported trade liberalization. The Clinton
administration strongly advocated NAFTA (North American Free Trade Agreement) and pushed
for freer trade in other international forums. Subsequently, the Bush administration urged
Congress to pass fast-track authority that would allow the administration to negotiate
agreements reducing trade barriers even more. Many Americans and members of Congress do
not share the enthusiasm of economists and the recent administrations, however.
In a December 10, 1998 Wall Street Journal article, Jackie Calmes reported on the difficulties
encountered by the administration in its efforts to promote free trade:
“President Clinton keeps trying to sell the idea that foreign trade is good for the U.S.
economy. Yet eight years into a record peacetime expansion, many Americans still aren’t
buying.”
“The latest poll for The Wall Street Journal and NBC News illustrates the hurdle faced by the
administration and other free traders. Given a choice of statements, a lopsided 58% majority
of those polled agreed that foreign trade has been bad for the U.S. economy because cheap
imports have cost wages and jobs here. Just 32% said trade has been good because foreign
demand for U.S. goods has spawned economic growth and produced jobs for Americans.”
In a January 27, 1999 Wall Street Journal article, Michael M. Phillips also reported on the
administration’s efforts:
“President Clinton’s top economic advisers went to Capital Hill yesterday to present their
free-trade agenda for the year - and left with a clear picture of how controversial that agenda
will be.”
“Sen. Kent Conrad (D. N.D.) railed against Canadian wheat imports… Sen. Frank Murkowski
(R. Alaska) complained that the glut of foreign oil has pushed down oil prices and cost jobs
in the energy industry. … Most vehement was Democrat Sen. John D. “Jay” Rockefeller IV
(D. W.Va.) who condemned what he called an illegal flood of cheap steel from Japan, Russia,
Brazil and elsewhere.”
“[But] Generally, … free trade benefits the nation as a whole …”
Questions:
1. Is it true that “free trade benefits the nation as a whole” as Phillips writes?
2. If so, why then do most Americans and many members of Congress oppose free trade?
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Fuller and Geide-Stevenson, “A Survey of Republicans, Democrats and Economists,” Eastern
Economic Journal, Winter 2007, pp.81-94. Alston, Kearl, and Vaughan, "Is There a Consensus
Among Economists in the 1990s?", American Economic Review, May 1992, pp. 203-209. Kearl, Pope,
Whiting, and Wimmer, "A Confusion of Economists?", American Economic Review, May 1979, pp.
28-37.
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Theory of Comparative Advantage: The Importance of Opportunity Cost
The theory of comparative advantage asserts the following:
• If each nation specializes in (produces more of) the good in which it enjoys a
comparative advantage, the production of goods in the world as a whole can
increase.
• Furthermore, if, after specialization, each nation exports the good in which it enjoys a
comparative advantage and imports the good in which it suffers a comparative
disadvantage, consumers in each nation can have more goods available to enjoy.
We can illustrate these points by considering an example. Assume that the table below
indicates how much more (or less) wheat and textiles can be produced in the United States
and Mexico when one more (or less) worker is employed:
United States
Wheat
Textiles
1 worker
1 worker
↓
↓
200 bushels
200 yards
Mexico
Wheat
Textiles
1 worker
1 worker
↓
↓
20 bushels
100 yards
In the U.S.:
• If one more worker were employed by the wheat industry, wheat production would
rise by 200 bushels; if one less worker were employed in the wheat industry, wheat
production would fall by 200 bushels.
• If one more worker were employed by the textile industry, textile production would
rise by 200 yards; if one less worker were employed in the textile industry, textile
production would fall by 200 yards.
In Mexico:
• If one more worker were employed by the wheat industry, wheat production would
rise by 20 bushels; if one less worker were employed in the wheat industry, wheat
production would fall by 20 bushels.
• If one more worker were employed by the textile industry, textile production would
rise by 100 yards; if one less worker were employed in the textile industry, textile
production would fall by 100 yards.
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Absolute Advantage
The U.S. enjoys an absolute advantage in the production of both wheat and textiles.
• When one more worker is employed by the American wheat industry wheat
production rises by 200 bushels, whereas in Mexico, wheat production would only
rise by only 20 bushels.
• Similarly, when one more worker is employed by the American textile industry,
textile production rises by 200 yards, whereas in Mexico, textile production would
rise by only 100 yards.
Why might this be true? It is easy to explain why the U.S. has an absolute advantage in the
production of wheat. The American Midwest has the ideal climate and soil for growing
grain. No other area of the world has better conditions for growing grain. Consequently, the
Midwest’s ideal conditions give the U.S. an absolute advantage in wheat production. The
U.S.’s absolute advantage in textile production is explained by the fact that American
workers have more and better machines to use than do our Mexican counterparts. With
superior machines, American workers can produce more.
Comparative Advantage: Opportunity Cost Is Crucial
Comparative advantage differs from absolute advantage. Comparative advantage is
determined on the basis of opportunity cost. Opportunity cost refers to what must be given
up or foregone when an activity is pursued.
First, consider the U.S.
Opportunity Cost of Wheat in the U.S.
To determine the opportunity cost of wheat, let us see what would happen if we
moved one worker from the textile industry to the wheat industry:
Wheat Production
200 more bushels
← 1 worker ⎯
Textile Production
200 fewer yards
Wheat production would rise by 200 bushels and textile production would fall by 200
yards. The opportunity cost of producing 200 bushels of wheat is 200 yards of
textiles; therefore, the opportunity cost of 1 bushel of wheat is 1 yard of textiles.
Opportunity Cost of Textiles in the U.S.
To determine the opportunity cost of textiles, move one worker from the wheat
industry to the textile industry:
Wheat Production
200 fewer bushels
⎯ 1 worker →
Textile Production
200 more yards
Textile production would rise by 200 yards and wheat production would fall by 200
bushels. The opportunity cost of producing 200 yards of textiles is 200 bushels of
wheat; therefore, the opportunity cost of 1 yard of textiles is 1 bushel of wheat.
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Now, consider Mexico
Opportunity Cost of Wheat in Mexico
Move one worker from the textile to the wheat industry:
Wheat Production
Textile Production
20 more bushels
← 1 worker ⎯
100 fewer yards
Wheat production would rise by 20 bushels and textile production would fall by 100
yards. The opportunity cost of producing 20 bushels of wheat is 100 yards of textiles;
therefore, the opportunity cost of 1 bushel of wheat is 5 yards of textiles.
Opportunity Cost of Textiles in Mexico
Move one worker from the wheat to the textile industry:
Wheat Production
Textile Production
20 fewer bushels
⎯ 1 worker →
100 more yards
Textile production would rise by 20 yards and wheat production would fall by 100
bushels. The opportunity cost of producing 100 yards of textiles is 20 bushels of
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wheat; therefore, the opportunity cost of 1 yard of textiles is 5 a bushel of wheat.
Summary of Opportunity Costs
United States
Opportunity Cost of
1 bushel of Wheat
1 yard of Textiles
1 yards of textiles
1 bushels of wheat
Mexico
5 yards of textiles
1
5
bushels of wheat
Since the opportunity cost of wheat is less in the U.S., the U.S. has a comparative
advantage in wheat production; since the opportunity cost of textiles is less in Mexico,
Mexico has a comparative advantage in textile production.
NB: Mexico enjoys a comparative advantage in textile production even though it does not
enjoy an absolute advantage.
Comparative Advantage and Specialization: Produce More of One Good
Now, suppose that each country specializes by transferring workers
• From the industry in which it does not enjoy a comparative advantage.
• To the industry in which it does enjoy a comparative advantage.
More specifically, suppose that one American worker is transfer from the textile industry to
the wheat industry and Mexico transfers 2 workers from wheat to textiles. What happens to
wheat and textile production in the U.S.? Wheat production rises by 200 bushels and textile
production falls by 200 yards:
Wheat Production
Textile Production
U.S.
200 more bushels
← 1 worker ⎯
200 fewer yards
What happens to wheat and textile production in Mexico? Since the transfer of one worker
from the wheat industry to the textile industry would reduce wheat production by 20 bushels
and raise textile production by 100 yards, the transfer of two workers will reduce wheat
production by 40 bushels and raise textile production by 200 yards:
Wheat Production
Textile Production
Mexico
40 fewer bushels
⎯ 2 workers →
200 more yards
Summary:
U.S.
Mexico
World
Wheat Production
Wheat Production
+200 bushels
−40 bushels
+160 bushels
← 1 worker ⎯
⎯ 2 workers →
Textiles Production
Textile Production
−200 yards
+200 yards
0 yards
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Gains from Specialization
When each country specializes in the production of the good in which it enjoys a
comparative advantage, the world as a whole can produce more.
When one American worker is transferred from the textile industry to the wheat industry
and two Mexicans workers are transferred from the wheat industry to the textile
industry, wheat production increase by 160 bushels in the world as a whole with no
reduction in textile production.
Gains from Specialization: 160 bushels of wheat.
Comparative Advantage, Specialization, and Trade
After specialization occurs we shall show that if each nation exports the good in which it
enjoys a comparative advantage and imports the good in which it suffers a comparative
disadvantage, it is possible to make more goods available to its consumers. To do so, we
shall consider three different trading scenarios:
• 200 bushels of wheat for 200 yards of cloth – Terms of Trade: 1 bushel for 1 yard
• 40 bushels of wheat for 200 yards of cloth – Terms of Trade: 1 bushel for 5 yards
• 100 bushels of wheat for 200 yards of cloth – Terms of Trade: 1 bushel for 2 yards
200 bushels of wheat for 200 yards of cloth – Terms of Trade: 1 bushel for 1 yard
In this case, the U.S. sends 200 bushels of wheat to Mexico in exchange for 200 yards of
cloth. We say that the terms of trade are 1 bushel of wheat for 1 yard of cloth. It is easy
to calculate what happens to the amount of wheat and cloth available to the consumers in
each nation:
Wheat
Trade
Wheat
Production
U.S. produces
200 more bushels
Textile
Production
1
worker
Textile
Trade
U.S. produces
200 fewer yards
200
bushels
200
yards
Mexico produces
40 fewer bushels
United States
Mexico
World
2
workers
Mexican produces
200 more yards
Wheat (bushels)
Prod Trade
Cons
Textile (yards)
Prod Trade
Cons
+200
-40
+160
-200
+200
0
-200
+200
0
0
+160
+160
+200
-200
0
0
0
0
Would the U.S. have an incentive to agree to these terms of trade? No, the amount of
wheat and textiles available to American consumers has been unaffected; Mexican
consumers would enjoy all the gains from specialization.
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40 bushels of wheat for 200 yards of cloth – Terms of Trade: 1 bushel for 5 yards
In this case, the U.S. sends 40 bushels of wheat to Mexico in exchange for 200 yards of
cloth. We say that the terms of trade are 1 bushel of wheat for 5 yards of cloth. It is easy
to calculate what happens to the amount of wheat and cloth available to the consumers in
each nation:
Wheat
Trade
Wheat
Production
U.S. produces
200 more bushels
Textile
Production
1
worker
Textile
Trade
U.S. produces
200 fewer yards
40
bushels
200
yards
Mexico produces
40 fewer bushels
United States
Mexico
World
2
workers
Mexican produces
200 more yards
Wheat (bushels)
Prod Trade
Cons
Textile (yards)
Prod Trade
Cons
+200
-40
+160
-200
+200
0
-40
+40
0
+160
0
+160
+200
-200
0
0
0
0
Would Mexico have an incentive to agree to these terms of trade? No, the amount of
wheat and textiles available to Mexican consumers has been unaffected; the U.S. would
enjoy all the gains from specialization.
100 bushels of wheat for 200 yards of cloth – Terms of Trade: 1 bushel for 2 yards
In this case, the U.S. sends 100 bushels of wheat to Mexico in exchange for 200 yards of
cloth. We say that the terms of trade are 1 bushel of wheat for 2 yards of cloth. It is easy
to calculate what happens to the amount of wheat and cloth available to the consumers in
each nation:
Wheat
Trade
Wheat
Production
U.S. produces
200 more bushels
Textile
Production
1
worker
Textile
Trade
U.S. produces
200 fewer yards
100
bushels
200
yards
Mexico produces
40 fewer bushels
United States
Mexico
World
2
workers
Mexican produces
200 more yards
Wheat (bushels)
Prod Trade
Cons
Textile (yards)
Prod Trade
Cons
+200
-40
+160
-200
+200
0
-100
+100
0
+100
+60
+160
+200
-200
0
0
0
0
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Both the U.S. and Mexico would have an incentive to agree to these terms of trade
because the consumers of both nations would have more wheat and textiles available.
In fact, any terms of trade between 1 bushel for 1 yard and 1 bushel for 5 yards could make
more wheat and more textiles available to the consumers of both nations.
Theory of Comparative Advantage Summary: The Importance of Opportunity Cost.
• If each nation specializes in (produces more of) the good in which it enjoys a comparative
advantage, the production of goods in the world as a whole can increase.
• Furthermore, if, after specialization, each nation exports the good in which it enjoys a
comparative advantage and imports the good in which it suffers a comparative
disadvantage, consumers in each nation can have more goods available to enjoy.
Why is trade controversial?
The most important reason that free trade is so controversial is that while specialization and
trade can benefit the citizens of each nation as a whole, particular groups within each nation
can be hurt. In the example we just completed, fewer textiles would be produced in the U.S.
Clearly, this is not good news for the owners of textile firms and also not good news for those
workers who are employed by the textile industry. So, while Americans as a whole are
helped, some groups of Americans, those associated with the textile industry, would be hurt.
Generalizing: Those groups associated with the production of the good being imported
would be hurt while those associated with the production of the good that is being exported
would be helped.
An Aside: Labor versus Management. We are accustomed to thinking that the interests of
labor and management always conflict. When it comes to trade, however, labor and
management within an industry have the same interests. If the industry is exporting goods,
both labor and management have an incentive to favor free trade; if the industry is facing
competition from foreign firms, both labor and management typically oppose free trade.