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Charleston Business

Leaders will need to make tough decisions to sail the sometimes turbulent international business seas

Mar 18, 2019 10:54AM
By Dr. Daniel Ostergaard

Free trade. The term is used often, but what does it really mean? In an ideal world, Adam Smith’s “invisible hand” would prevail and increased trade would result in a win-win for all concerned. Free trade economists believe that free trade between nations brings many benefits. Reducing tariffs and increasing competition increases quality and reduces cost over time. Income stretches a little further because that TV costs a little less than it did before. 

To better understand the argument for free trade, consider a peach pie. Normally, when we think about taking a piece of pie, everyone else has less available. The act of taking a piece of pie becomes a zero-sum game. More for me is less for you. On the other hand, free trade economists believe that when someone takes a piece of that proverbial pie, the pie just gets bigger. Free trade is not a zero-sum game, it’s a win-win.  

As an example, I run a simple exercise in my classroom. I initially hand everyone a small piece of candy. They have no choice which kind they receive. Then they have to assign a value to it between 1 and 10 (1 being they hate it and 10 that it is their favorite flavor). I then ask the class to trade their candies if they wish with others in the class. The only rule is that each trade is a one-for-one and everyone must end up with one piece of candy. After this round of trading, each student then assigns a value to their new piece. The scores around the classroom increase substantially. By the simple act of trading, students exchange something they have for something they wanted. Admittedly, this is an over-simplified exercise, but it demonstrates in a simple fashion the value of trade. Trade is good. 

However, even as we espouse free trade, international business leadership has very real challenges. Bruce Moon wrote a book nearly 20 years ago entitled “Dilemmas of International Trade,” wherein he described three modern dilemmas associated with international trade: a distributional dilemma, a values dilemma, and a state goals dilemma. 

The distributional dilemma of trade is based on the idea that no trade is really free. Government policies intended to regulate trade inevitably have consequences in the sense that there are winners and losers. Government trade policy tends to reallocate or redistribute the benefits of trade in ways that helps some sectors at the expense of others. A policy of increasing tariffs on imported goods to protect one industry may have unforeseen effects on others. This cascading effect of allocation or protection policies may adversely impact other industries and other workers. The most common example given is that increases in steel tariffs to protect a domestic steel industry will eventually raise the cost of vehicles for the same citizens the tariffs were originally intended to help. So, while we may be protecting a non-competitive industry, we are inadvertently hurting consumers. 

Arguments are often made that South Carolina’s textile industry was destined for outsourcing due to higher domestic U.S. costs. Eventually, as the theory holds, the workforce that initially suffers from the loss of the textile industry will find future solace in higher paying jobs as high-tech airline, automobile, and tire manufacturers thankfully replace those former textile industries. While the state benefits from this evolution in industry, as do most of the citizens who now see more training, education, and salary opportunities, there are still those who suffer because they lost their jobs in the textile mill and years passed before new jobs returned to the community. 

The distributional dilemma of trade should also be highlighted in a coming hurricane that we have not fully addressed or even admitted is forthcoming. This hurricane is in the form of trade deficits and national debt. So, while imports today mean cheaper goods in our local big box store, years of trade deficits and debt will impact future generations. Countless reports today indicate that if we decided to collectively pay off the national debt today, every living American would have to pay $70,000+. 

As a side note, the solution to this seems fairly obvious. Spend within the limits of what we have. And yet, the short event horizon for most politicians means that this debt is for someone else to solve tomorrow. How do we fix it, then? In addition to spending less, we export more. South Carolina manufacturing is amongst the best in the world. Policies that promote exporting and that continue to establish South Carolina as a go-to state for manufacturing and export ensure jobs and enhance our overall quality of life. 

A second dilemma addressed by Moon is the values dilemma. Because trade inevitably brings people closer together, we find countries or sub-groups within countries to be concerned about the new ideas and cultural phenomena that are also introduced. Likewise, international trade brings inherent values questions. Should the U.S. take a stand on human rights issues with various regimes around the world by stating that we will not trade with certain countries until their human rights record improves?

What happens when some of our international competitors do not have the same ideas about human rights? Time and again, we have seen competitor nations eagerly enter those countries where we have said we will not go. Does this mean that American firms are disadvantaged from not being able to compete or participate in certain countries? And choosing not to engage in certain countries means that other countries’ firms have first mover advantage? Yet, the very act of taking that stand on human rights is what makes our nation unique. We are not without our blemishes, but we do believe there are some things worth valuing more than economic gain. 

Other values dilemmas include the concept of a “race to the bottom” wherein firms are forced to continually lower costs to compete, and so cost reductions may take the form of less emphasis on environmental or safety precautions. Likewise, firms can reduce costs by reducing employee benefits and/or pay, but at what cost? And what if we require stricter regulations on U.S. firms whereas other countries do not? Our firms may be at a significant competitive disadvantage. Similar to the distributional dilemma, Moon warns that trade policies require choices and those choices will likely sacrifice some values for others. 

The final dilemma Moon writes about falls directly on the government itself. As the “state goals” dilemma, the government must choose between fostering trade and economic growth while also balancing the need for protecting sovereignty. It would be easy to envision a scenario where we are engaged in countless trade deals, multilateral agreements, and the like, yet, again, at what cost? 

Some years ago, Thomas Friedman extolled the virtues of trade when he proposed the Dell Theory of Conflict Prevention. This theory contends that countries that are both part of the same global supply chains are less likely to fight with one another. At some point, trade dominates and wars become too costly. Yet history is replete with examples where this theory has not held up under scrutiny. 

On the one hand, we espouse free trade and all its benefits, but in the same sense, free trade can conflict with our national security interests. Less than a year ago, the federal government passed a law forbidding U.S. government agencies “from using certain components or services from several Chinese tech firms” after certain products raised espionage fears. 

Similarly, our government keeps two American firms employed making submarines. Could other countries produce our strategic submarines at less cost? Maybe. But why would we outsource such a strategic component of our military arsenal? And yet, this self-reliance does raise the ire of our trade partners, who inevitably lose when we build our own. Regardless, national security concerns must trump free trade when those concerns are real. This is not to say we have not seen circumstances where national security was invoked as a pretense to kill legitimate business decisions (e.g., Dubai Ports World deal), but that will have to wait for another article. 

As leaders, however, we must weigh the greater good with the impact on those on the losing end. This balance is surely the hallmark of real leadership. Real leadership requires a compromise at times. How do we ensure that the most people possible enjoy the benefits of trade while at the same time minimizing the negative aspects? To do this effectively, we must have a further event horizon than those dictated by either short political cycles or the talking heads on news programs. 

International trade is undoubtedly as old as civilization itself. Yet, the sheer scope and size of international business today is a relatively new phenomenon, a phenomenon that we are still trying to perfect. It is not something we should fear but rather look upon as an opportunity. Either we seize the helm now and steer a course for future generations or we leave them at the whim of the tempest. Personally, I prefer the former.
 
Dr. Daniel Ostergaard is clinical associate professor of International Business at the University of South Carolina’s Moore School of Business. Any opinions expressed herein are his alone and do not represent the views of the university or the school.