In the Academy Award-winning movie “Patton,” the general, in opposition to General Bradley’s advice, undertakes a daring advance toward the Sicilian city of Messina. At one stage of the campaign, following severe loss of life, Bradley queries Patton, “Have you seen the casualty reports?”
Patton responds, “General Bradley, it’s time to consider just how many casualties we’d have if we were still down there crawling on that g**d***** road.” His words are harsh but his logic is enlightening.
Patton employed what economists and psychologists call “counterfactual” reasoning. When one evaluates the efficacy of a decision, analyzing only the outcome of that decision is insufficient. One must also consider the outcomes of the alternative choices.
For example, chemotherapy is a horrible medical treatment with a host of unpleasant side effects. So is it a bad idea? When placed alongside the counterfactual alternative, it may be a very good idea.
For another example, back in 2011 it was common to see op-ed columns expressing the complaint that the economic stimulus packages passed by Congress in 2009 had been ineffective. After all, unemployment was still quite elevated.
But what about the counterfactual? How would things look in the absence of those spending programs? What do economists believe about the American Recovery and Reinvestment Act of 2009? According to a 2012 survey undertaken by the Initiative on Global Markets forum at Chicago’s Booth School of Management, 93 percent of economists believe that the act lowered unemployment.
As an aside, for those of you who might be survey junkies, I recommend the Initiative on Global Markets forum website, igmchicago.org/igm-economic-experts-panel. It is an interesting place to find out what economists believe about a host of topics. The list of topics is quite extensive. Now back to work.
How do economists weigh in on the subject we have been discussing, namely foreign trade? Back in 2012 the Initiative on Global Markets survey posed this statement: “Some Americans who work in the production of competing goods, such as clothing and furniture, are made worse off by trade with China.” Ninety-six percent agreed, with 4 percent uncertain. No one disagreed.
And yet, when posed with the statement, “Freer trade improves productive efficiency and offers consumers better choices, and in the long run these gains are much larger than any effects on employment,” the same number — 96 percent – agreed, with 4 percent uncertain. I must say, economists are an agreeable crowd!
One traditional argument in favor of restrictive trade is that tariffs enable a new industry to develop. Import duties purportedly shield an enterprise from outside competition until it is able to get up and running on its own.
This brings to mind a paper by Douglas Irwin, published in The Journal of Economic History in 2000, titled “Did Late Nineteenth Century U.S. Tariffs Promote Infant Industries? Evidence from the Tinplate Industry.” That title may not sound quite as exciting as the war movie “Patton.” But the paper does give an insightful understanding of economic reasoning and counterfactual discourse.
By way of background, tinning, AKA tinplating, is a process of coating metals such as iron and steel with tin to protect them against corrosion.
Early American history includes many episodes of industry-protecting tariffs. While still in the midst of the Civil War, the U.S. Congress passed the Tariff Act of 1864, placing a 50-percent import duty on many goods including iron and steel. (I suppose Congress could actually pass legislation back then.)
Although the act intended to place the same tariff on imports of tinplating, an unfortunate typo which placed a comma two words too early in a key sentence allowed tinplates to arrive into the country with a mere 15-percent tax.
As a result of these two tariffs, namely a high duty on iron and steel and a low duty on tinplate, late 19th century America had a thriving iron and steel industry, but a very small tinplating sector.
The high tariffs guaranteed success in the iron and steel industry. The high tariffs also guaranteed high iron and steel prices in America.
Since iron and steel were considerably cheaper in England and Wales, the plating enterprises there could manufacture and export tinplate to America at a lower cost than the local tinplaters here could manage.
Somewhere along the way, Representative William McKinley noticed this. He managed to pass the McKinley Tariff – the Tariff Act of 1890 — placing a 50-percent tariff on tinplate. Needless to say, passage was not a slam dunk. Those who would be negatively affected were not happy campers.
But on the pro side of this act was the American tinplate industry. It had been struggling ever since the tariffs on tinplating had been erroneously reduced.
So how did the Tariff Act of 1890 work out? In 1891, the U.S. produced 11,000 tons of tinplate while importing 325,000 tons. By 1899, the numbers had reversed, with the U.S. producing 361,000 tons and importing a mere 63,000 tons. The tariff worked. The U.S. had a tinplate industry.
Several of the former naysayers were induced to acknowledge that the tariff had been a great success. Or had it?
Using a general optimal policy model developed by my former Columbia University professor, Jagdish Bhagwati, Douglas Irwin simulated various alternative policy options to evaluate the McKinley Tariff from a counterfactual point of view. His findings are as follows:
First, the tariff was indeed influential in establishing the U.S. tinplate industry a full 10 years or more ahead of what otherwise would have been the case.
Second, the tinplate industry would have happened much sooner than 1890, had the U.S. lowered its tariffs on iron and steel. Those tariffs from 1864 kept the price of domestic metals high, thereby making imported British tinplate cheaper.
Third, the McKinley Tariff raised the U.S. price of tinplate to a level which allowed the U.S. industry to develop. But this also caused the consumers of tinplate to pay more than had been the case when cheaper British tinplate had been available. When the loss to consumers was weighed against the benefit of the quicker pace of tinplate-industry development, the net effect was a cost to the U.S. In other words, while the tariff benefited the tinplate industry, on net, it was not beneficial to the economy as a whole.
In summary, the optimal policy at the time was to altogether eliminate the tariffs on metals. The second-best solution was to leave tinplate alone. The third-best solution was the one chosen, namely to increase the duty on foreign tinplate.
It is unfortunate that this tariff is often touted as a success story in the annals of history. Yet, in light of counterfactual analysis, and considering the economy as a whole, the tariff does not pass the test of efficiency and social welfare.
This is not an isolated study. Many others have been produced over the past decades which point to the same thing: Generally, free trade is, net of all effects, a good thing. What else can explain the agreement of scores of economists on an issue? We are not that agreeable.
(Marcus Hutchins is a former economist, treasury bond arbitrage trader, and hedge fund manager. He retired to Southport in 1997, where he resides with his wife, Andrea, and youngest daughter, Abbey. He welcomes feedback at coastaleconomist@me.com.)
