Wednesday, July 26, 2006

Smith and the Isolationist Tradition

Adam Smith is widely-known as an advocate of free trade. In his masterpiece An Inquiry into the Nature and Causes of the Wealth of Nations Smith writes that "no regulation of commerce can increase the quantity of industry in any society beyond what its capital can maintain". It is, according to Smith, best left to the self-interest of businessmen to direct their capital into profitable venues. He argues they have the best information due to their close proximity and the best incentive to invest resources widely.

Smith writes convincingly:

The statesman, who should attempt to direct private people in what manner they ought to employ their capitals, assumes an authority which could safely be trusted, not only to no single person, but to no council or senate whatever, and which would nowhere be so dangerous as in the hands of a man who had folly and presumption enough to fancy himself fit to exercise it.
Smith argues that this logic applies directly to restrictions in international trade; they are the same in nature and result.

So where is the "Isolationist Tradition" the title of this post speaks to? Admittedly, Smith does not really belong in that tradition. His academic dedication (not withstanding his later behavior as a customs collector) is to favor free trade as a means of extending the division of labor and taking advantage of specialization -- all to the benefit of the countries. However, Smith does put forth several arguments, in Book IV Chapter II, favoring restraint of foreign trade that are commonly heard today.

There are two main caveats to free trade and two minor issues which, under "proper deliberation", may lead a prudent statesman to restrict foreign trade.

Smith's first case in which "it will generally be advantageous to lay some burden upon foreign, for the encouragement of domestic industry" is that of when the industry is "necessary for the defence of the country". Smith makes the common argument that it is foolish to depend on foreign producers to provide the martial materials for a country. He then uses Great Britain's restraints on navigation as an example of advisable actions; he notes that "as defence, however, is of much more importance than opulence, the act of navigation is, perhaps, the wisest of all the commercial regulation of England.

The second case warranting a burden "upon foreign for the encouragement of domestic industry, is, when some tax is imposed at home upon the produce of the latter". This is a "level playing field" argument. Instead of taxing foreign industry because of dumping or cheap labor, Smith is arguing that we ought to tax foreign industry because of the domestic burdens placed on industry. Without such restraint, foreign industry will have an unfair advantage over domestic.

Smith then offers two other situations where free importation of foreign goods should be curtailed. The first case is when "some foreign nation restrains by high duties or prohibitions the importation of some of our manufactures into their country". The sole purpose of which would be to retaliate in order that the foreign country may remove the restrictions. He notes that "when there is no probability that any such repeal can be procured, it seems a bad method of compensating the injury done to certain classes of our people, to do another injury ourselves, not only to those classes, but to almost all the other classes of them".

The final possible exception to free trade listed here relates to the effect of foreign competition on employment. Where "those high duties and prohibitions taken away all at once, cheaper foreign goods of the same kind might be poured so fast into the home market, as to deprive all at once many thousands of people of their ordinary employment and means of subsistence". Smith notes that this is rarely adequate, for very few industries are so completely sensitive to foreign competition and further that it is far from clear that losing a job in one industry would lead to no employment or no subsistence.

Was the great Adam Smith in favor of free trade? The answer is clearly that he was, but he also believed that there were legitimate exceptions to it. The exceptions he has made are common today, much like those made by List.

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