Debunking myths about international trade

International trade is the oldest driver of globalization dating back to ancient times, and has become cheaper and easier to conduct in modern times thanks to technological progress, which has reduced the costs of communication and transportation. It has also been boosted by the reduction of tariffs since the end of World War II.

Yet international trade remains controversial, even among highly educated and exceptionally intelligent people, due to numerous fallacies often impervious to logic and fact. Here are the most egregious of those fallacies: A trading party can gain from trade only if the other party loses. High-wage nations cannot compete with low-wage nations. Exports are good but imports are bad for economic growth and jobs. Trade surpluses are beneficial, reflecting good policy but trade deficits are harmful, reflecting bad policy. Import restrictions decrease trade deficits and increase jobs.

With these ideas in mind, the McKinsey Global Institute (MGI), the research unit of the consulting firm McKinsey & Company, published a 104-page report last week titled “Trading myths: Addressing misconceptions about trade, jobs, and competitiveness.” As part of MGI's ongoing work on recovery and growth after the global financial crisis, it examines international trade and competitiveness in 17 mature economies, including 15 European Union members, Japan, and the US (A mature economy, in contrast to an emerging economy, has stable or declining population and low or decelerating economic growth.) Focusing on tradable sectors, it analyzes how international trade affects the composition of economies and jobs. As a critical step in assessing international competitiveness, it divides the tradable sectors, comprising services as well as manufacturing, into three factor-intensity categories: labor-intensive, capital-intensive, and knowledge-intensive.

The report lists the following myths about international trade in mature economies: Myth 1 -- Mature economies are beaten by emerging economies in trade and thus confront widening trade deficits. Myth 2 – Imports of manufactured goods drive trade deficits. Myth 3 -- Trade is the major cause of manufacturing job losses. Myth 4 -- Mature economies generate jobs only in low-paid, low-value domestic services. Myth 5 -- Services trade is small, and any increase will go to emerging economies with low labor costs. Myth 6 -- The US is the world leader in the export of goods and services. Here are the six realities the report reveals to debunk the six myths: Reality 1 -- In the aggregate, the trade balance of mature economies has stayed mostly stable and actually has begun to recover recently, but with significant imbalances between deficits and surpluses.

Reality 2 -- Imports of increasingly pricey primary resources, not manufactured goods, have been the major contributor to trade deficits of mature economies. Reality 3 -- Changes in domestic demand for services and continuing labor productivity increases, not imports of manufactured goods, are the chief cause of lower manufacturing sector employment in mature economies. The decline in the share of manufacturing employment is a long-term trend. Reality 4 -- Mature economies keep creating high-value, knowledge-intensive jobs while paying some of the best wages in tradable sectors that are focused more on services than on manufacturing. The boundaries, however, between services and manufacturing are becoming increasingly fuzzy as manufacturers continue to move into service-type activities such as sales and customer care, shifting downstream, and such as research and development (R&D), shifting upstream. They are also creating global supply chains of service and assembly type activities in conjunction with services suppliers. Reality 5 -- Mature economies already generate one-quarter of their total exports in services, expected to grow to one-third by 2030. Notwithstanding their concerns about offshoring, they are registering rising surpluses in services, especially in knowledge-intensive services that contributed to their recent overall growing trade surplus. Reality 6 -- It is the EU, led by Germany, not the US, which is the leader in exports of (mostly business, computer, and financial) services, in net as well as gross terms, even if only extra-EU trade is taken into account.

The report argues that mature economies, aware of these realities, should take full advantage of growth opportunities in trading with emerging economies instead of committing self-defeating protectionism. It advises mature economies, which have the fastest value-added growth in knowledge-intensive sectors, to push for fuller liberalization of trade in services, which still faces high restrictions. Instead of obsessing about job creation through manufactured goods exports, they should stress investment in education, infrastructure, and innovation to strengthen their comparative advantage in knowledge-intensive services, which can continue to create high-value jobs. This is excellent advice based on strong logic and solid facts. But alas many policymakers in mature economies let neither logic nor facts get in the way of how they deal with international trade.