School of Oriental and African Studies
International Foundation Courses and English Language Studies
FOUNDATION DIPLOMA FOR POSTGRADUATE STUDIES
Issues in International Development Studies
Term 3 Assignment, May 2019
Critically analyse the claim of neoliberals that protectionist
trade policies are harmful for developing countries.
Submitted by Michael Koenig
FDPS No. 666027
Word count: 2172
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The statesman who should attempt to direct private people in what manner
they ought to employ their capitals, would not only load himself with a most
unnecessary attention, but assume an authority which could safely be
trusted, not only to no single person, but to no council or senate whatever,
and which would nowhere be so dangerous as in the hands of a man who
had folly and presumption enough to fancy himself fit to exercise it.
Adam Smith, 1776 (Smith, 2012, p. 446)
Protectionist trade policies have been the topic of fervent debates since the 18th century. With
a relentless trade war currently raging between the United States and China (BBC, 2019) and
one with Mexico lingering in the air (Casselman, 2019), the question whether a state should
protect domestic industries by imposing tariffs and quotas on imports is more relevant than
ever. Not only has WTO Director-General Roberto Azevedo talked about the ‘worst crisis in
global trade since 1947’ referring to the tit for tat of U.S. import tariffs and Chinese
retaliations (cited in Gallas, 2018), but analysts have also warned of potentially massive
economic damage on a worldwide scale (BBC, 2019). Whilst the Trump Administration
continuously emphasises its determination to restore the “greatness” of the Reagan years, a
time indeed characterised by neo-liberal trade policies, President Trump is actually promoting
protectionism in favour of special-interest groups at a large scale (Stiglitz, 2017).
It was, however, not long before Ronald Reagan took office when the classic neo-liberal
critique of protectionism originated at the University of Chicago’s Department of Economics,
paving the way for Reaganomics, of which Nobel-laureate economist Milton Friedman
became the most prominent and popularised advocate (Emmett, 2010). Neo-liberals to this
day claim that protectionism damages the economy and causes superfluous customer
spending; they dismiss protectionism as having been unsuccessful and disruptive in the past,
and they highlight that corruption and bias are the inevitable outcomes whenever states are
tampering with the market. Using examples from developing countries, I will discuss these
aspects in turn, arguing that even though the neo-liberal objections against protectionism are
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striking and convincing, both neo-liberalism, as well as protectionism, suffer from the same
moral defects. Thus, defects undermine the validity of both systems and, inevitably, lead to
the wish for an alternative and less corrupt economic system.
But what is the theoretical underpinning of protectionism, why has it been adopted by
developing economies and how has it been criticised by neo-liberals? Any development
theory until the end of the 20th century believed in industrialisation as a prerequisite for
economic growth, since manufactured goods, having the highest price elasticity, usually allow
for the highest gains and, thus, for an increase in investment (Desai and Potter, 2002; Parkin,
2014). At the same time, however, some countries can produce the same good or prime
commodity cheaper than others. Countries with better capability of production are said to
have comparative advantage, and it is an economic rule that an import from a country with
comparative advantage is more profitable than manufacturing the same good domestically due
to a decrease of the price, as Figure 1 shows.
Figure 1, The effects of comparative advantage
(Source: Parkin, 2014, p. 153)
In the case of many developing countries, however, comparative advantage usually exists
only for prime commodities or cheap manufactured goods with little price elasticity. As a
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consequence, a country can either accept export dependency on those products until it reaches
the so-called ‘take-off stage’ of industrial development (Rostow, 1979), or it can be
protectionist and counteract the ‘invisible hand of the market’ (Adam Smith) by imposing
tariffs and quota in order to prevent customers from purchasing imported goods (Dutt, 2009)
and, thus, achieving ‘manufactured commodity self-sufficiency through import substitution’
(Todaro and Smith, 2011, p. 595).
However, drawing heavily on ideas already expressed by Adam Smith in his seminal 1776
publication The Wealth of Nations (Smith, 2012), neo-liberals argue that protectionism has a
damaging effect on the economy. They say that it not only causes an increase in consumer
price, but it also reduces the quantity of products sold. Moreover, it generates a deadweight
loss, resulting in less private capital being available for further investment (see Figure 2).
Figure 2, Free trade and trade with tariffs
(Source: Parkin, 2014, p. 154)
In order to support their criticism, neo-liberals use empiric evidence from unsuccessful
import-substitution industrialisation (ISI), notably referring to examples from Latin America
(Clarke, 2002; Desai and Potter, 2002; Clark, 2007; Silva, 2007; Todaro and Smith, 2011).
On one hand, they point out that in most instances, states financed ISI through massive loans
from foreign banks, ultimately leading to devastating debt crises such as in Mexico and Brazil
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in the early 1980s (Thirlwall, 2007); on the other hand, they stress that protectionist policies,
no matter how admirable their cause, inevitably nurtures corruption and the influence of
special-interest groups, since no politician or government official is immune from being led
by self-interest (Friedman, 2002). They warn that ‘one of the great mistakes is to judge
policies and programs by their intentions rather than their results’ (Friedman cited in Heffner,
1975).
Besides these economic reasons, neo-liberals also see their rejection of protectionism as an
almost sacred obligation for reasons deeply rooted in history and politics (Friedman, 2002).
Based on Hayek’s 1944 polemic The Road to Serfdom (Hayek, 2005), they believe that in
order to control the economy, a state would have to curtail individual freedom; they say that
no agreement can ever be achieved in a state regarding the direction of economic planning;
out of frustration over division and disruption, calls will be heard for a powerful, strong man
to pave the way into an allegedly more orderly and prosperous future, at the price of a
complete surrender of freedom. As a moral deterrent to this scenario, Hayek (1994, p. 49)
cites Mussolini: ‘The more complicated the forms assumed by civilisation, the more restricted
the freedom of the individual must become.’ Thus, neo-liberals implicitly link the prevention
of totalitarianism with the fight for free-market capitalism. And this indeed happened not only
with immense military power in the Second World War but also, through the soft power of
Structural Adjustment Programmes (SAPs), in the 1980s and 1990s: the World Bank and IMF
demanded from their aid receivers the introduction of free markets and democratic
government as conditionalities for development aid (Mason and Asher, 1973; Rist, 2002).
Despite all the neo-liberal criticism of protectionist trade policies, there seems to be little
choice for LDCs than to adopt ISI in order to stimulate their development. Due to limited
price elasticity of their most common source of income, prime commodities, investment is
generally limited to resource exploitation, often even under the control of foreign
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corporations, which causes an additional outflow of money (World Bank, 1998; Khan, 2007;
Dutt, 2009). Moreover, prices for primary products tend to fall gradually over the years, a
phenomenon first described as the Prebisch-Singer hypothesis (Todaro and Smith, 2011) and
subsequently proven by a number of empirical studies, such as Harvey et al. (2010), data of
which is shown in Figure 3. The result of this downward trend is a deterioration of
commodity terms of trade and an impediment of growth, factors that might justify the
adoption of ISI despite its weaknesses.
Figure 3, Empirical data in support of the Prebisch-Singer hypothesis
(Source: Harvey et al., 2010)
When ISI is adopted, however, it appears to have equally positive effects on growth than a
neo-liberal development strategy. Figure 4 juxtaposes two extremes: Hong Kong, Friedman’s
prime example for a successful Smithian free-market economy (Monnery, 2017), and Chile, a
famously unsuccessful example of ISI (Silva, 2007). Note that the comparison is only valid
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until the early 1980s, the time when the Latin American debt crisis struck Chile and the
economy went into recess. Subsequently, both countries were using a neo-liberal model, the
effects of which are also visible in the graph. A similar trend can be seen in Figure 5, which
compares the GDP per capita of several regions of the globe.
Figure 4: GDP Hong Kong, Chile and Zambia
Figure 5: GDP per capita of world regions
(Source: https://data.worldbank.org, accessed 26 May 2019)
(Source: https://data.worldbank.org, accessed 26 May 2019)
Unfortunately, the neo-liberal objection against protectionism regarding bias and corruption
has to be sustained, as the following examples clearly demonstrate. Firstly, a number of
studies show serious corruption in developing countries (World Bank, 1998; Khan, 2007;
Dutt, 2009), affirming that self-interest all too often the driver for political decisions and
economic bearings. Moyo (2009), for instance, mentions Mobutu Sese Seko, who alone
illegitimately acquired over US$5 billion between 1965 and 1997. Secondly, in copper-rich
Zambia, ISI has been applied heavily since the country’s independence in 1964, but the GDP
did not rise until the mid-2000 (see Figure 4); however, Seidman (1974) shows that in fact the
planning of ISI was largely shaped in favour of special-interest groups and a wealthy elite. An
assembly plant of Italian car manufacturer FIAT, for instance, was highly subsidised by the
government, but this investment was only geared towards high-end consumers, whilst the
goods most needed, such as tools for agricultural production, were neglected.
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In recent years, attempts have been made (Chang, 2007, 2010; Klein, 2007) to dismiss neoliberal reservations against protectionism with an ad hominem (Weston, 2009) argumentation,
attempting to discredit neo-liberal economists by showing fallacies in their claims or bad
intentions behind their good-looking recommendations. This is to say that Chang speaks of
neo-liberal intentions to make the public belief that AIEs rose through free-market capitalism,
whilst in fact all these countries had adopted protectionism. He then concludes that through
SAPs, neo-liberals decline LDCs the kind of development AIEs had experienced in the past.
Not only, though, do neo-liberals frequently point towards protectionism as the main driver of
U.S. development over decades (Friedman, 2002), but they also complain about an overregulation of the U.S. economy and an explosion of the U.S. administration (Heffner, 1975).
Furthermore, Pennington (2011) points out that Chang not only lacks historical accuracy and
thorough use of source material to support his claims, but he also tends to create ‘caricatures’
of his opponents. Similarly, Klein (2007) evokes the malevolent use of economic shocks to
implement policies and regulations for the benefit of a selected few, whilst Norberg (2008) is
eager to reject most of Klein’s accusations by proving the inaccuracy of historical data
presented by her.
There seems to be, however, one serious argument that indeed needs to be taken into account
against the impression that protectionism is always coercive, as well as ‘oppressive and
tyrannical’ (Smith cited in Stewart, 1829, p. 324), whilst neo-liberalism, due to its noble
support of freedom and democracy, claims to represent moral authority. Nevertheless, several
authors have suggested that neo-liberal SAPs have been simply coerced upon LDCs by
connecting them with aid (Chambers, 2005; Acemoglu and Robinson, 2013; Pilger, 2016).
Furthermore, Moyo (2009) points out that foreign aid, usually connected with a neo-liberal
agenda, is the main fuel for corruption in Africa. Finally, it has been said that through
globalisation, being a long-term effect of the neo-liberal policies of the 1980s, world
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dominance has shifted to big corporations (Korten, 2001; Stiglitz, 2017), thus subverting the
original ideas of little corporate influence in neo-liberalism (Friedman, 2002). In the words of
Foster (2006, p. 40), this means: ‘Now we are told that this invisible hand has been globalized
to such an extent that the sovereign power of nation states over their territorial domains
themselves has been vastly diminished.’
Finally, it can be concluded that both protectionism, as well as neo-liberalism, suffer from a
disparity between theory and practice (Todaro and Smith, 2011). Both approaches have clear
values, although the neo-liberal criticism of protectionist trade policies is undermined by its
own shortcomings. Not only does the situation facilitate the wish for an alternative economic
system, as Korten (2001), Chambers (2005) and Stiglitz (2017) have suggested, but the fact
that the main shortcomings of both neo-liberalism and protectionism are located in the area of
self-interest and greed raises the question whether or not a more moral strain in the economy
could be conceived, as Taylor (2014) hopes. Such approach would not only require further
research, but it would also be in full alignment with Adam Smith, the patriarch of neoliberalism, who saw great value in a refined, elevated and compassionate attitude towards
society: ‘to restrain our selfish, and to indulge our benevolent affections, constitutes the
perfection of human nature’ (Smith, 1982, p. 25).
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