Any manager who tries to create a strategy out of worn-out clichés and unexamined nostrums is dismissed. Yet in the United States and other Western countries we have grown comfortable with the government following outworn nostrums about free trade. We have elevated the economic theory of free trade to the status of a national theology, and we follow its simple dictums as if they were immutable laws. We appear prepared to follow the precepts of free trade wherever they lead us, even if that means plunging lemminglike to our economic ruin.

Today the evidence should be clear to anyone who wants to look at it: our blind allegiance to free trade threatens our national standard of living and our economic future. By sacrificing our home market on the altar of free trade, we are condemning ourselves and our children to a future of fewer competitive businesses, fewer good jobs, less opportunity, and a lower standard of living. These unacceptable outcomes threaten us in ways that are all related to our practice of free trade.

American business’s stake in these matters is clear. If we do not wish to live with these outcomes, then we must construct a new and effective way to think about trade that will serve the interests of both business and the nation.

Threats of Free Trade

As we practice it, free trade has profoundly destructive results for the United States and other Western nations. First, nations that do not play by our rules practice unequal competition. Second, free trade puts us in direct competition with low-wage nations, countries that have a lower standard of living than the United States. Third, by allowing these nations to take over big sectors of our market, we permit the permanent interruption of an important relationship between demand and supply that has been the main engine of economic growth in American history.

Unequal National Competition

Classical economics teaches us that free exchange works to produce the best results for all, whether the exchange takes place within one nation or across national boundaries. But this concept works only when the exchange is an equal one that occurs within a common framework of laws, customs, rules, and regulations. Economic competition conducted under the law of the jungle leads to chaos and failure. The price system becomes a guide to nothing that is sensible or tolerable.

The laissez-faire approach to economics fashionable in the United States permits distorted outcomes precisely because it neglects the essential role of rules and regulations in preventing destructive competition. When each nation creates self-serving rules, free trade across national boundaries becomes destructive—an unequal competition under inconsistent and inharmonious rules.

Most American companies facing international competition have encountered the problem. Most governments are playing a simple game: they use their myriad powers—subsidies, favorable banking practices, local content requirements, exchange control, and the like—to win jobs and gain higher incomes for their people or to achieve a favorable national balance of payments.

American companies, therefore, end up competing not with foreign companies but with sovereign foreign states—states intent on winning jobs and sometimes whole industries for themselves. Foreign competitors are able to beat out a U.S. company not because of superior economic efficiency but because of subsidies. Japan grants favorable credit terms to certain industries, and many countries give cheap export-finance loans. European nations have special treatment for the value-added tax on exported goods. Most of the Pacific rim nations have weak or nonexistent environmental regulations, and Taiwan often fails to enforce its patent and copyright laws. Laborers in places like China lack the rights of U.S. workers.

Wage Competition Among Nations

Among nations, competition over wages causes desirable industries and jobs to move from countries with higher standards of living and higher wages to countries with lower standards of living and lower wages. It is an unequal form of competition that explains much of the recent movement of industries and jobs out of the United States, undercutting our production.

Low-wage nations can raise their standards of living at the expense of ours in two ways: export their people to the United States or import U.S. jobs to their people. The result of either approach would be the same—our wages and standard of living would fall to match the level of the lower-wage nation while, at least temporarily, those of the lower-wage nation would rise.

If there were free immigration and truly open borders, workers from the lower-wage countries would stream into the higher-wage countries. These new arrivals would compete for jobs, accept work for lower pay, and force the existing jobholders to accept either lower wages or unemployment. Precisely for this reason, of course, no one accepts or supports the notion of free immigration.

We do, however, accept and support the notion of free trade, which has the same effect. Instead of exporting workers to the United States, lower-wage countries simply import our jobs and industries to their workers. As the higher-wage nation suffers cutbacks in production, failures of companies, and losses of jobs, the market dictates that workers accept lower wages and a reduced standard of living to match the lower-wage foreign competition.

For example, Japan, Taiwan, and, most recently, South Korea have had rapid increases in desirable jobs in major industries and in their standards of living. Through unbalanced exports to us, they have taken over U.S. markets and jobs. They have gained industries and jobs that we have lost. These countries could not have risen so rapidly if they had based their advance on their home markets or on balanced and mutually beneficial trade with other nations.

Under either free immigration or free trade, however, the lower-wage nation enjoys only a short-term benefit. Rapid economic advance based on taking over the markets, the industries, and the jobs of high-income nations is likely to be a blind alley. Gradually, the higher-wage nation, deprived of its economic base, becomes poorer and its market shrinks—or it belatedly begins protecting itself from one-sided imports. The low-wage nation then may wish it had followed a pattern of economic growth that was sustainable and not parasitic.

Either free migration or free trade would work to turn the world into a “population commune,” drifting into global poverty, pulled down by the negative-sum game of international wage competition.

Demand & Markets

Our present-day economics fails to recognize the importance of demand and markets—and thus exaggerates what production alone can accomplish. Yet a nation’s productive capabilities are decisively limited by the levels and kinds of its domestic demand and its access to foreign markets. But in the United States, we persistently fail to see the importance of our vast, prosperous, and accessible domestic market. We don’t appreciate the key role that the demand side of our domestic market has played in generating economic growth for our country. As a result, we are now about to give away our great advantage to our foreign competitors.

America’s rise to economic preeminence was based on the interaction between the market’s demand and the pace-setting industries that developed to meet that demand. The process was self-feeding. Favorable circumstances—the size of the U.S. market, extraordinary resources, freedom from overpopulation, a favorable position in the two world wars—gave the U.S. market a unique richness and diversity. This market was the magnet that drew forth the new industries that, in turn, created even more wealth. In the interaction of demand and supply, the U.S. economy became the pathbreaker for the world.

But recently this self-feeding interaction has been interrupted, as Japan and other countries of the Pacific rim have taken over large shares of the U.S. market. These nations have recognized the role of demand in fostering industrial growth and, by using government subsidies and lower-wage workers, have simply substituted their industries for American industries in the demand-supply relationship. With the U.S. market switched over to fueling the meteoric advance of foreign industries, U.S. industry has begun to decline.

Unlike the historical demand-and-supply relationship between market and industry, the new relationship that substitutes foreign industry for American industry represents an economic blind alley. The domestic markets of these foreign producers have neither the size nor the wealth to support their own industries. As they undercut U.S. production, however, they will gradually weaken the American economic base that they have come to depend on. Rather than a self-sustaining, self-reinforcing process, this new relationship becomes self-liquidating.

Underlying Myths of Free Trade

Much of the debate over trade today is conducted within a narrow range of thinking, a set of ideas dictated by classical economics. If the United States is to develop a realistic trade policy, we first need to examine these underlying notions, recognize them for the myths that they are, and then substitute more practical attitudes toward the role of trade in our economy. Seven myths in particular dominate conventional thinking about trade.

Comparative advantage governs international trade. To justify free trade, laissez-faire economists from Adam Smith to the present have claimed that international trade and competition work totally differently from trade within one nation’s borders. They argue that international trade and competition are not based on price comparisons—that is, that trade is not subject to the rule that low-priced goods undercut high-priced goods and that low-priced labor undercuts high-priced labor. Rather, they say, international trade is governed by comparative advantage. It depends on differences in the internal structures of prices in the trading countries and is not affected by differences in their absolute levels of costs and prices.

To support this contention, economists offer an example in which two nations with different wage and cost levels nevertheless have a pattern of trade that is balanced and mutually beneficial. They then say that the example shows how free trade will result in balanced and mutually beneficial international trade and competition. What it actually illustrates is that if the two nations require their trade to be in balance, then the trade will be governed by comparative advantage and absolute price levels will not matter. When trading nations require their trade to be in balance, the low-wage, low-price nation cannot pull away the industries and jobs of the other nation. Under this condition, differences in the nations’ absolute costs will not matter.

Most of international trade is not governed by comparative advantage. Rather, it reflects wage and price competition on the part of countries seeking jobs and economic growth.

Exchange rate adjustments automatically keep foreign trade in balance. According to our classical economics, the huge U.S. trade deficit and the export of American industries and jobs indicate only the need for an adjustment in the exchange rate: a decline in the international value of the dollar would make everything all right again. The implicit argument is that a decline in the dollar would balance U.S. trade and improve the competitiveness of U.S. industries without forcing a domestic decline in real wages and the standard of living.

Again, this argument is fallacious. A decline in the dollar is simply a way for the United States to become poorer. It is a way for the American economy to accede to the inevitable results of competition from lower-wage and lower-standard-of-living nations by becoming itself a lower-wage, lower-standard-of-living nation. A devalued dollar is, quite simply, worth less. By reducing the value of the dollar we cut real wages, diminish U.S. buying power, and bring the U.S. economy more in line with the lower-standard-of-living countries against which free trade has pitted us.

U.S. companies can become competitive through cost cutting. Others argue that the way to bring U.S. trade into balance is for American companies to compete by cutting costs. But in global competition, there is no way U.S. production at wages of $10 an hour can become competitive with efficient foreign production at wages of $1 an hour. Efforts to compete by cutting costs are suicidal.

Frantic cost cutting to accomplish what is impossible destroys the future capabilities of companies as well as the nation. Abandoning research and development, chopping investment, decimating staff is a formula for self-destruction. The U.S. oil industry is warning the nation that it is being forced to cripple its future capabilities by lowering costs to survive the flood of cheap foreign oil. Many other industries are also going through massive cuts in future-oriented expenditures.

First, they can find ways to economize within their companies—always a useful measure at the start. But the company that chooses to go this route will eventually find itself faced with deeper and deeper cuts. Almost inevitably, the process changes from cutting fat to cutting meat to cutting close to the bone. Some American companies have already reached the last steps—firing skilled people, abandoning research and development, scaling back investment. These actions, taken in the name of achieving competitiveness, will only destroy the company’s capabilities.

The second path is more direct but leads to the same outcome: to lower costs, American companies can turn to offshore sources and buy components or finished products from lower-cost foreign companies. If begun on a small enough scale, this approach can delude an American business into thinking it has restored its competitiveness. In fact, it is an admission of defeat—one that the foreign source will understand and gradually exploit by capturing more and more of the product’s value-added and eventually discarding the empty shell of the American business. Companies that shift production abroad through outsourcing, closing U.S. factories, building new ones abroad, establishing joint ventures with foreign companies, and giving up products become essentially importers of foreign goods. Such a shift has been prevalent in automobiles, apparel, footwear, computers, telephone equipment—perhaps in most manufacturing industries. It does not take much imagination to see what lies at the end of this road.

Low-cost goods are efficiently produced goods. Economists often assert that the production of something more cheaply in one country than in another is evidence that it is produced there more efficiently and therefore should be produced in the cheaper country. In the United States, this argument is used to support the conclusion that goods that can be made abroad more cheaply—and presumably more efficiently—should be made abroad.

This argument is based on a false assumption. Lower cost is linked with efficiency only when the goods under examination are of equal quality and the producers are all operating under the same rules, including government and labor policies that reflect accepted social and environmental values. To shift production from the United States to low-wage foreign labor may cut costs but does not necessarily raise efficiency. This is because low-cost labor, by definition, means a lower standard of living. If the standard of living in a low-labor-cost economy is low, how can anyone sensibly call that economy efficient?

In shifting production to countries with low wage rates, with large government production subsidies, or with lax production regulations, free trade actually reduces economic efficiency—as does producing goods for the American market on the opposite side of the world in order to take advantage of cheap labor. In international trade, the price system works perversely. Low cost does not imply efficiency.

All it takes to make free trade work is a level playing field. A popular argument designed to deal with the rising flood of foreign imports is the notion of the level playing field: since most of our foreign competitors do not play by the same trade rules as the United States, these countries must admit our goods to make things fair. Then we will be playing by the same rules—our rules.

Two things are wrong with this argument. First, since many other nations do not suffer from our delusions about free trade, they will not be threatened, cajoled, or pressured into adopting our rules against their self-interest. Second, since they generally have cheaper labor and yet increasingly use more of the advanced technologies of advanced nations, our foreign competitors will actually exploit the U.S. market even more under universal free trade. Our trade would not be brought into balance—certainly not at any acceptable standard of living—by other countries adopting free trade. We would only suffer more broadly the destructive consequences of free trade.

The United States should give LDCs unlimited market access. The argument that the United States has a responsibility to help less developed countries by granting them free access to its market has a humanitarian ring. For two reasons, however, such a position is good neither for us nor the LDCs.

First, granting unlimited access to our market is like signing a blank check—which nobody should ever do. Moreover, while less developed countries could cumulatively cause serious erosion in the U.S. standard of living, for each of them the benefits could be so small as to produce no marked improvement in their standard of living. Also, their basic economic underpinnings would remain unchanged.

Second, in encouraging LDCs to base their economic advancement on exploitation of the U.S. market, we are guiding these nations into a blind alley. The experiment can only fail, either because the United States belatedly wakes up to the ruinous effects of this approach and limits imports or because the wage competition causes the U.S. economy to decline and the U.S. market to shrink. A far more humanitarian approach would be for the United States to advise these nations to tie their economic programs into a pattern that would prove workable and sustainable over the long run.

The change to a global economy is inevitable and desirable. These days it is increasingly fashionable for Americans to say that the separate national economies must inexorably evolve into a global economy. This is simply the latest version of the kind of wave-of-the-future rhetoric that economists and others have applied to many movements now dead and forgotten.

The proposition is that the spread of free trade and international economic integration will proceed because all nations approve and desire it and because it will be successful. Put this way, the argument falls of its own weight. It is not true that all nations desire thoroughgoing international economic integration, with its implied override of national economic objectives, interests, and policies. For example, Japan—a model of realism and success in so many recent competitive undertakings—is hardly rushing to submerge itself in a one-world economic commune. And the destructive effects of free trade are now so obvious that at some point the United States and other high-income nations will wake up before worldwide economic integration drags them down into worldwide poverty. Rather than blithely assuming that a world economy is inevitable, we should expect worldwide economic integration to stop before it spreads much further. No nation is willing to preside over its own economic ruin.

Despite its fashionable ring, this one-world doctrine is dangerous. It simply reinforces the folly of free trade. The correct course is for nations to get their own economic affairs and their own international trade under control and to use the only functional structure that works—a world of effective national economies, engaged with one another in mutually beneficial trade and constructive competition.

A Realistic Trade Policy

With imports pushing them against the wall, American companies in many industries have seen only a narrow choice: leave the industry or move production overseas. The decision of AT&T to give in to foreign competition and shift production of telephones from Shreveport, Louisiana to a new factory in Singapore typifies one reaction to these inexorable pressures. Given this choice, which leaves out the prospect of a constructive U.S. trade policy opening a third option—remaining competitive at home—most companies, preferring foreign production to corporate failure, are moving their production abroad or buying foreign production for resale. But while it may be hopeless for these companies to try to compete from their U.S. production base under existing trade policy, managers choosing to move overseas should realize that there is no guarantee of success abroad. In fact, the American exodus to foreign production bases may bring about the very circumstances that will undermine that move.

From pressure in Congress to a new pragmatism about trade in the Reagan administration, the signs are clear: America’s willingness to play victim to the free-trade doctrine is unlikely to continue much longer. At some point in the not-too-distant future, the United States will put limitations on foreign imports to balance America’s trade. When that happens, companies that have moved abroad will find themselves on the wrong side of the fence. As a more reasonable U.S. trade policy begins to reconnect the powerful domestic market with U.S. companies—restoring the self-reinforcing process of economic growth in this country—American companies that have gone abroad will be on the outside looking in.

Moreover, in a world in which nations generally will be hard-pressed to meet domestic demands, the operations of American companies in other countries are unlikely to receive favorable treatment or political support. American companies will be the natural target of frustration and disappointment. The prospect of operating in such an environment—with but limited access to a rehabilitated U.S. economy and a flourishing U.S. market—should give American executives pause before they leap over the fence. Under U.S. trade policy, they are being asked to choose between two losing strategies: they can cease production now in the face of unfettered importation or they can move abroad and find themselves on the wrong side of the fence when the change in U.S. trade policy finally comes. The solution, of course, is for American business leaders to support a change in trade policy now, before it is too late.

A realistic trade policy would end the general underselling of American production by foreign production. It would set limits on the proportions of U.S. markets that could be taken by imports and ensure for U.S. industry a market on which it could rebuild and resume its advance. The new policy would put U.S. exports on a strong foundation by tying them to U.S. imports as in the principle of comparative advantage rather than by allowing low-wage foreign producers to generally undercut U.S. exporters through their absolute cost advantage.

These accomplishments will be possible only if we move beyond the slogans that dominate the trade debate: “Free trade is good.” “Protectionism is bad.” A revolution in ideas that replaces sloganeering with pragmatic analysis must underlie the revolution in accomplishments. American business must play the decisive leadership role.

A number of principles should guide this effort at understanding and shaping a new and pragmatic U.S. trade policy:

1. In a world of diverse nations, free trade works perversely, causing destructive competition among nations, including wage competition that tends to reduce all nations to a lowest-common-denominator standard of living.

2. Making trade among diverse nations constructive means balancing it and preventing destructive shifts of industries between nations. Just as they need a fiscal budget to keep expenditures in line with incomes, nations need a trade budget to keep imports in line with exports.

3. To Balance its trade and continue its economic growth, a nation with a high standard of living and an attractive market will find permanent limitations on imports necessary, just as limitations on immigration are.

4. In balancing its trade, the high-income, high-cost nation will tie its exports to its imports through trade packages or through exports subsidized from the proceeds of import licenses. These arrangements could bring about balanced international trade that would correspond to comparative advantage.

5. Import limitations supposed to be nondiscriminatory—such as tariffs—are actually very discriminatory. For example, uniform U.S. tariff rates high enough to balance U.S. trade with low-wage nations would virtually exclude imports from other high-income nations and would thus discriminate against those with high incomes.

6. Countries must manage their trade in ways that meet their particular needs and capabilities. National differences in circumstances, ideologies, administrative capabilities, and other factors are too important to permit any uniform and general system for arranging international trade.

7. National governments have a legitimate and necessary role in arranging constructive international trade. Government is the only agency that can assume the responsibility for managing a nation’s trade budget in a way beneficial to the interests of the nation. The interest of the nation in balanced trade is in concert with the interest of American business in guaranteed access to the American market.

Balancing U.S. Trade

The U.S. economy urgently needs immediate action to stop unfairly advantaged imports from undercutting U.S. production. Month by month, American companies are sinking, failing, or giving up on U.S. production and moving their operations offshore. The once mighty U.S. automobile industry, located in the nation with the world’s greatest market for automobiles, is being liquidated through joint ventures with Japanese companies, shifting the design and production of its cars abroad, producing American cars largely with foreign-made components, abandoning the small-car market to imports, and shifting its capital to secondary industries. The longer we allow this process to go on unchallenged, the dimmer our economic future will be.

Two kinds of trade policies, therefore, need to be put into place: some first steps to hold the line, halt the erosion of the American economy, and begin to move in the direction of balanced trade and some permanent measures that will ensure balanced and mutually advantageous trade among nations.

To hold the line, we should immediately impose quotas on certain goods, at least halting their increase in market share and, in some cases, reversing recent rapid growth. The inadequate quotas on autos, steel, textiles, apparel, footwear, and machinery can serve as a point of departure. The goal is a comprehensive trade policy that protects and defends the interests and future of the United States—that protects the nation rather than any special interest. The imposition of quotas would be a step in the direction of import limitations to balance our trade; quotas would begin the process of designing a system of mutually beneficial trade between us and our trading partners.

The United States should quickly establish provisional targets for the maximum share of its market available to various foreign-made products. Over time these targets would be tied to a balanced pattern of trade. In establishing the targets, we would send foreign producers a clear signal of what to expect in the way of access to our market. Even more important, the targets would tell American producers how much of the domestic market would be reserved for them so that they could begin gearing up for U.S. production and at the same time spell out the clear dangers of moving more production overseas.

Some quotas should be based on existing legislation and on the findings of the U.S. International Trade Organization regarding the economic injury that foreign competition has inflicted on such U.S. industries as footwear, textiles, and apparel. But we should reject the notion—on which ITO is based—that quotas are only a temporary remedy designed to give domestic industries time to shrink or become competitive.

Our new trade policy should make it clear that we want permanent limitations on imports to the American market. The basis of a realistic U.S. trade policy is a permanent system of limitations on imports to the American market, coupled with the promotion of desired exports within the framework of balanced and mutually advantageous trade with other nations. A trade policy that tries to force free trade on the world is doomed to failure—and would ruin us if adopted.

A permanent system limiting imports to the U.S. market and maintaining balanced trade should eventually replace these temporary measures. Such a system must serve a number of goals. It must:

Preserve the United States as a high-income nation with a great market for advanced goods.

Produce balanced and mutually advantageous trade plus debt dealings with each nation, nation-group, and the world.

Produce an industrial composition of trade that serves U.S. interests and reserves a defined share of the home market for U.S. producers by taking into account factors like the defense implications, the development of breakthrough technology, the kinds of jobs produced, and the kinds of jobs required.

Creating and administering a trade policy that meets these goals is a demanding task—but so is running a corporation in today’s world. In either case, simple slogans that promise easy success are unrealistic. A successful trade policy requires foresight, realism, judgment, honesty, knowledge, administrative effectiveness, and toughness in enforcing rules and regulations, just as the operations of large companies do. At both organizational levels, that of the company and that of the nation, adapting successfully to a complex, uncertain, and changing economic environment is a hard-won achievement. The hope of the United States lies in recognizing and tackling this difficult task rather than in waiting for Providence or free trade to bring us success on a platter.

The permanent system of balanced trade should be based on the inherent value of the U.S. market. Its size and wealth give it great value to foreign producers and other nations. We should capture this value for the benefit of all Americans through two mechanisms: quid pro quo trade packages arranged with other nations and the sale at market price of a limited number of import licenses. We should use part or all of the revenue generated by these sales to support particular U.S. industries whose products we want to export to further national interests.

The United States should enforce these import-limiting arrangements rigorously and promptly—not in the way that the government now handles these matters. We should strive to detect trade violations quickly and take immediate action. Moreover, punishment must provide real remedies rather than the long-delayed hand slaps delivered now. We must treat the import limitation program as a set of serious business contracts between nations—not as a theater for acts of political symbolism.

A Time to Rethink

In touting free trade to other nations, the United States has not only invited its own economic destruction but also misled other countries in their expectations from international trade. It is time for America to reject this false god and accept the blame for preaching an unrealistic doctrine. We must repudiate the notion that the rest of the world can achieve economic growth by unbalanced sales to the U.S. market.

Mutually beneficial and balanced international trade is the only trade policy that makes sense. Apart from transition problems, it would do no violence to any nation’s valid claims. By moving to such a policy we would be helping low-income nations develop sustainable economic programs and safeguarding the living standards of high-income nations. We owe it to all countries of the world to put to an end the unrealistic idea that more countries can emulate Japan and achieve economic advance through a parasitic relationship with the American market.

The delusion that free trade is the road to worldwide affluence has influenced many countries; the delusion will hurt many of them. We need to escape from this belief and build a new system of international trade—one that rests on realism and mutual benefit for all nations.