These "Notes" are an introduction to structural issues affecting industries such as those of sugar and ethanol. Structural issues are not theoretical: current events often illustrate such topics well.

About Free Trade

That free trade is good is an opinion shared widely. However, there is much confusion about what “free trade” is and whether it always is good for economic growth and development. [1]

When is Free Trade truly "free"? The best way to observe and define free trade is to look at it where it happens.

In the UK, trade is free between counties, such as between Kent and Sussex. In the USA, it is free between the states, such as Texas and Michigan. In the EU, it is free between Brest in France, Munich in Germany, Toledo in Spain or Maastricht in the Netherlands. Throughout these territories, resource allocation depends only on physical factors, under what is basically one single set of rules.

These examples help identify the conditions under which true free trade is realized. Among the necessary conditions are a single currency and similar economic and social rules [2] across the relevant area.

It is only through common standards (which address fairness in competition issues) and stable monetary and legal references (which address risk issues) that the market can express economies of scale properly and allocate resources efficiently. Further, beyond the unhindered exchange of goods, optimal efficiency also requires free movement of capital and labour.

Other trade arrangements are neither free nor optimal. What many call “free trade” today is a rather flawed ersatz of free trade.

At best, to paraphrase the new US President, they are “deals” in which benefits are not necessarily shared [3]. Taking the UK out of the EU’s Single Market will reduce the amount of free trade the UK conducts.

Currencies and Free Trade

A particularly unsettling and frequent penchant of free trade supporters is their offhand dismissal of exchange rate issues. Fluctuating currencies introduce uncertainty and transaction costs which must be compensated for by higher returns.

The standard answer to this problem is that over time exchange rates revert to levels that correctly reflect productivity and inflation differentials. Unfortunately, “currencies often move far away from fundamental values for long periods.” [4] Note the expressions “far away from fundamental values” and “long periods”: under such circumstances, industries with higher physical productivities can be wiped out before an exchange rate reverts to reasonable levels. If the affected industries are capital-intensive enough, it is unlikely they will be revived: the result is a drop in overall productivity, as poor performers are saved – indeed promoted – by currency misalignment.

Some extol the flexibility to adjust a nation’s relative competitiveness a floating currency gives. The catastrophic and dramatic situation of Greece, constrained by its use of the euro, is a recent prime exhibit supporting this view. This is politics, not economics: Detroit and Houston share the same currency but their prices – for housing, for labour, for food – differ. In fact, economically distraught Detroit has effectively “devalued”. Similarly, office space is less expensive in Brest than it is in Munich, despite being priced in euros in both locations.

In a single currency area, factor prices will adjust without government intervention. “Liberal” economists should applaud; instead, they often ignore the drawbacks multiple currencies impose on trade.

Free Trade and Development

A persistent myth is that free international trade is always good for economic development.

For example, The Economist correctly wrote “Export-led growth and foreign investment have dragged hundreds of millions out of poverty in China, and transformed economies from Ireland to South Korea.” [5] Ireland is a developed country, a member of the EU Single Market and uses the euro, so its “exports” are similar to those of, say, Massachusetts to other US states. China and South Korea, however, have undoubtedly immensely benefitted from growth in their international exports. In domestic productive capital accumulation, however, neither of these countries can be reasonably considered as running free market economies: in both, state intervention in every aspect of economic life, including exports and imports, was pervasive, or still is. Indeed, their external trade policies were and are unabashedly protectionist.

That exports are good because they provide additional sales is certain. That they alone demonstrate that free trade as commonly promoted is best is questionable.

Foreign trade can be good for economic development, but not under any market rules. Indeed, people who promote international trade should reflect upon the fact that no developed country became developed through what they call free trade – not one [6]. All developed countries managed foreign trade ferociously as they developed.

Indeed, “In the real world, from shortly after the War of 1812 until the Kennedy Round of tariff reductions of in 1967, the United States was the most tariff protected nation on earth. According to the theory of free trade, [it] should have suffered from low technology, low job creation, low wages, and high prices. Instead, [the United States] prospered. [It was] a world leader in technology, created many jobs at high wages, all while prices went down. We also surpassed free trade Great Britain as the leading Industrial on earth.” [7]

Clearly, the “theory of free trade” needs adjusting.

There are logical reasons for free trade not to be always good, nor protectionism always bad.

This does not mean that a country should shun foreign trade. But “free trade” as currently practiced should not be seen as always, automatically and perfectly good for the economies involved in it.