‘The Rise of China and the Fall of the ‘Free Trade’ Myth’

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BELIEVE it or not, that is the title of an article published not in some leftist magazine but recently in the magazine of the top newspaper of US capitalism, the New York Times.

In our country, the belief in the free-trade ideology—and its larger framework of unrestrained capitalism and foreign investments—is a dogma nearly on par with that of Catholicism. That ideology, called neoliberalism, has been the canon of every economic management team since Marcos, although the strongman himself wasn’t an adherent of it and adopted many statist economic policies.

Fidel Ramos was an especially ardent believer of the ideology, proud of his rallying cry for it: “privatization, deregulation and liberalization.” This has only resulted among other things in the drastic weakening of our manufacturing and cash crop sectors—when our tariff floodgates were opened to the tsunami of Chinese products—and in the loss to profit-hungry capitalists of our public utility and other strategic industries.

President Duterte’s economic-planning secretary Ernesto Pernia is incontrovertibly a free-trader, since he had spent his academic career at the UP School of Economics, the champion of neoliberalist thought in this country.

However, I don’t think President Duterte, with his demonstrated conviction that a state must be an activist one whose primordial role is to serve the people—and not the markets—and his strong sense of nationalism can ever believe in neoliberalism. That is probably the one advantage we have now, that this president comes from a rough-and-tumble frontier city far from the metropolis, where abstractions are eaten alive by reality.

I am devoting two of my columns to reprint this very informative February 8 article from the New York Times magazine, written by Pankaj Mishra, which debunks neoliberalism not in an abstract manner but by showing that Japan, Korea, Taiwan, and more recently, China, developed their economies by rejecting neoliberal ideology—which we have so stupidly embraced.

I hope that in much the same way that Filipinos because of Duterte, have started to think differently of the role of the state, we at last will move away from the free-trade ideology that has guided the country’s economic management in the past 40 years, and which explains much of why our economy has become a laggard, most probably to be even overtaken by war-ravaged Vietnam.

My apologies though to the author as due to space and “attention-span” constraints, I have deleted those parts that would be of interest only to Americans.

The first part of the article, “The Rise of China ad the Fall of the ‘Free Trade’ Myth” follows:

The economic success of East Asian countries like Japan in the 20th century had already invalidated that article of faith: That nations can advance only by eliminating barriers to the free movement of goods and capital and by minimizing the role of government in the economy.

In his most recent book, Straight Talk on Trade, the Harvard professor Dani Rodrik castigates fellow economists for holding fast to a simple-minded view of free trade and globalization, one that he believes has caused economic chaos and political backlash across the West.

The argument that free markets equal progress was most eloquently and influentially advocated by the American economist Milton Friedman, whose fervent advocacy of free trade and the efficiency of unregulated markets gave intellectual ballast to the so-called Washington Consensus.

Free markets, the thinking went, not only generated wealth for all nations but also maximized consumer choice, reduced prices and optimized the use of scarce resources. Friedman’s faith in the efficiency of markets came to constitute what John Stuart Mill referred to as “the deep slumber of a decided opinion.”

Friedman was the most influential proponent of free trade since Adam Smith declared it, in 1776, the basis of the wealth of nations. He (erroneously) saw Japan and South Korea as brilliant examples of open, competitive markets.

When he visited China in 1980, he saw China as embodying everything that was wrong with government planning. Indeed, China in 1980 was just lurching out of Mao Zedong’s calamitous experiments. Deng Xiaoping’s government was trying to improvise new solutions to the country’s economic backwardness, which officials thought had exposed China to humiliation in the 19th and early 20th centuries.

The only truth

“Development,” Deng said, “is the only truth. If we don’t develop, we will be bullied.” And national development, in Deng’s view, could be achieved by a variety of means. His flexible attitude was summed up by a much-popularized Chinese maxim: “Cross the river by feeling for the stones.”

Despite horrific disasters, the Chinese state had drastically raised literacy and life-expectancy levels. Also, the Chinese were then seeking a third way: They looked to Japan and Singapore rather than the United States for economic models that would accelerate growth without endangering the authority of the Communist Party.

The Chinese saw little of value in an American proponent of laissez faire. Friedman left China, angrily claiming that his hosts were “unbelievably ignorant about how a market or capitalist system works.”

The philosophical father of economic protectionism is, in fact, Alexander Hamilton, the founder of the American financial system, whose pupils included the Germans, the Japanese and, indirectly, the Chinese.

Friedman died in 2006, shortly before the financial crisis of 2007 and 2008. He would have found it hard to explain why China, run by a Communist Party, has emerged as central now to the global capitalist economy. For the Chinese regime achieved this not by liberating its 1.4 billion citizens to maximize their private interests in unfettered markets but by controlling its currency, owning large businesses and intervening heavily in investment decisions by private companies.

Indeed, economic history reveals that great economic powers have always become great because of activist states.

Regardless of the mystical properties claimed for it, the invisible hand of self-interest depends on the visible and often heavy hand of government. To take only one instance, British gunboats helped impose free trade on 19th-century China — a lesson not lost on the Chinese. Britain was protectionist before it was a free-trading nation.

US: protectionist bastion

The United States itself was, while industrializing, as the economic historian Paul Bairoch wrote, the “bastion of modern protectionism.” Its average tariffs in the late 19th century were high — 45 percent.

The philosophical father of economic protectionism is, in fact, Alexander Hamilton, the founder of the American financial system, whose pupils included the Germans, the Japanese and, indirectly, the Chinese.

No story is as instructive as that of the Japanese, arguably the most diligent of Hamilton’s disciples. Post-1945 Japan preceded China as the hub of regional and intercontinental trade networks.

Soon after its disastrous part in World War 2, Japan helped revitalize Asia and by the mid 1990s was the biggest investor and exporter in most East Asian countries; it gave more foreign aid and sent more tourists to them and was the biggest buyer of their raw commodities. What’s more, it offered a model for development that combined a market economy with state intervention — one that China was even then beginning to learn from.

How did Japan, a country devastated by a world war that had few natural resources of its own, achieve economic primacy in Asia? Friedman’s explanation in Free to Choose was that “free trade set off a process that revolutionized Japan and the lives of its people.” Francis Fukuyama, who proclaimed the end of history in 1989, credited Japan’s success to “economic liberalism” of the kind espoused by Adam Smith. But the Japanese followed a very different model, one adapted from Hamilton.

Japan learned early the political risks of economic stagnation. At the height of 19th-century imperialism, it signed a humiliating treaty that subjected its trade policy to the control of five Western powers, deprived it of the right to impose tariffs, set radically low import duties and gave foreign residents in trading ports extraterritorial status.

Smarting from such insults, the conservative Meiji rulers of Japan became obsessed with regaining their sovereignty and protecting themselves from foreign tormentors.

In this endeavor, they looked to Germany. Unified in 1871, Germany was scrambling to catch up with industrialized Britain. To do so, it borrowed from recipes of national development proposed by Hamilton soon after the Americans broke free of their British overlords. In his “Report on the Subject of Manufactures,” submitted to Congress in 1791, Hamilton used the potent term “infant” industries to argue for economic protectionism.

Hamilton’s father was Scottish. Born in the West Indies, then a British colony, Hamilton was keenly aware of how the British practiced protectionism: preventing colonies from competing while selling their own goods around the world. In his view, infant nations needed room to maneuver before they could compete with established industrial powers. The United States embraced many of Hamilton’s recommendations; the beneficiaries were, first, the textile and iron industries and then steel.

Hamilton formula

It was Hamilton’s formula, rather than free trade, that made the United States the world’s fastest-growing economy in the 19th century and into the 1920s. And that formula was embraced by other nations coming late to international economic competition.

Hamilton’s most influential student was a German economist named Friedrich List, who lived in the United States from 1825 until the 1830s and wrote a book titled Outlines of American Political Economy.

On his return to Germany, List attacked the free-market gospel preached by Britain as sheer opportunism. In his view, the British could afford to kick away the ladder of protectionism they had climbed to the summit of global industry and manufacture.

He was all for free trade, but only after young industries had been nurtured in a protective environment. Applying List’s lessons, Germany moved with spectacular speed from an agrarian to an industrial economy.

The stakes were higher for Japan. There was hardly a country in Asia that had not been forced by Britain, Holland and France into unequal trade agreements. Economic liberalism was not a feasible option. The visible hand — the state rather than the market — was needed to guide development.

Closely following Germany’s example, Japan heavily subsidized its first factories, copied British design and imported foreign machinery and engineers. It not only protected many of its businesses from excessive competition but also guaranteed them a minimum profit.

When World War 1 disrupted Europe’s monopolies in its Asian colonies, Japanese companies moved in with their textiles, bicycles and canned foods. Following Europe’s free-trading imperialists, Japan had invaded and occupied Taiwan and then Korea, turning them into protected markets for its small industries. In a further refinement, the Japanese state bribed and coerced manufacturing companies. It gave them subsidies to export more, which in turn helped the companies fund innovations and become internationally competitive.

World War 2 proved [to be]only a brief interruption in Japan’s policy of protection. Utterly devastated, Japan still managed to rid Asia of its European competitors. It was during the American occupation, as the historian John Dower notes, that Japan instituted what an economist described as the most “restrictive foreign-trade and foreign-exchange control system ever devised by a major free nation.”

Nationalism a stimulus

Given unlimited powers by their American occupiers to get the country going again, the bureaucrats of Japan’s Ministry of International Trade and Industry laid the foundations of a world-class manufacturing economy.

Nationalism was a great stimulus. As Dower put it, “National pride — acute, wounded, wedded to a profound sense of vulnerability — lay behind the single-minded pursuit of economic growth that created a momentary superpower a mere quarter-century after humiliating defeat.”

But Japan would have struggled had war not erupted on the Korean Peninsula in 1950 and made Japan the main source of American procurements. The path of Japan’s protectionist state was now set — the country’s prime minister, Shigeru Yoshida, would call the destructive Korean War a “gift of the gods.”

Part 2 on Monday: The cases of Korea and Taiwan.

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