Trade Nonsense in the NYT

For reasons that I will not pretend to understand, newspaper editorial boards are huge proponents of trade agreements as a remedy to world poverty. They endlessly promote these agreements on their editorial and oped pages. Papers like the New York Times and Washington Post are as likely to print an oped critical of recent trade agreements, as Pravda would have been to print an anti-communist diatribe back in the days of the Soviet Union.

Today's piece in the NYT is a great example. It touts a new W.T.O. agreement which would raise world income by $54 billion annually. Even better, the piece tells us that the lowest income countries, which have just 1.2 percent of world income, would get 1.9 percent of the gains.

Before anyone celebrates this prospect, let's have some context. World income is approximately $50 trillion. So, the prospect of $54 billion in annual gains comes to 0.1 percent of world income. If the poorest countries get 1.9 percent of these gains, that comes to just over $1 billion a year. I'm not sure of their list of poorest countries, but if their total population is 500 million, then they will get $2 per capita annually from this deal.

Even this may be an exaggeration. There are many reasons for criticizing these trade models (the assumption of full employment ranks high), but I will only mention my favorite. These trade models all assume that lost tariff revenue is replaced by a lump sum tax.

This can get heavy into econ nerdism, but let me try to make the point simple. In economic modeling, taxes typically lead to economic distortions that reduce output. Tariffs are one such tax. If we reduce tariffs, then by definition, we will be raising GDP in these models.

Of course, tariffs provide revenues to government. If a government wants to make up this revenue (which it must do in the real world) then it must raise some other tax to offset the loss of tariff revenue. In these models, it is assumed that governments offset the lost tariff revenue by raising lump sum taxes.

A lump sum tax means that the government just sucks a specified sum of revenue from the economy. It is of course a fictitious concept. In the real world, governments must impose specific taxes, income taxes, sales, taxes, value-added taxes, etc. However, a lump sum tax is a useful fiction from the standpoint of those promoting these trade agreements, because it does not lead to any economic distortions.

In other words, the economic modeling shows what happens when we replace a tax that leads to economic distortions with a fictional tax that does not lead to economic distortions. Excuse me if I am not impressed.

--Dean Baker

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