Several years ago economist Bryan Caplan provided the most succinct and helpful statement about how we should think about free trade: “We’d be better off if other countries gave us stuff for free. Isn’t ‘really cheap’ the next-best thing?”
As with any simplification, critics could find many reasons to grumble about what that leaves unstated (e.g., trade leads to offshoring of jobs). But it highlights an important point about why free trade matters. Free trade is about as close to a “free stuff” economy as you can get in the real world.
Well, almost. China has found a way that is even closer: currency devaluation.
A simplified explanation of is that China is implementing policies to make its currency (the Yuan) weaker versus the U.S. dollar. This makes Chinese goods now less expensive. The effect is like adding a sale on goods America buys from China, a boon to millions of U.S. consumers, especially those in low-income groups.
As Mark Perry explains, by devaluing their currency China is essentially giving “foreign aid” to America:
In the best of all possible worlds for the United States, China would use its labor, capital and resources to manufacture consumer goods like clothing, footwear, furniture, electronics, toys and appliances and send $250 billion worth of those products to U.S. consumers for free every year as a gift or a form of foreign aid to the American people. In addition, the Chinese would produce and send to America another $250 billion worth of capital goods, raw materials, parts, industrial supplies and materials, automotive parts, machinery, and natural resources at no charge, as a gift to American manufacturers and other businesses every year. (Note: That’s roughly the amount of goods the U.S. will purchase from China this year.)
Can there really be any argument that such an arrangement, where America would receive $500 billion worth of free goods every year from China, would be to the unquestionable economic advantage of the United States? Unfortunately, that extreme form of Chinese generosity is not realistic, so here’s a possible second-best outcome:
Instead of sending us $500 billion worth of goods annually for free, China offers an attractive alternative. It agrees to send us $625 billion worth of consumer and industrial goods every year, but agrees to sell us those manufactured goods at a substantial 20 percent discount for only $500 billion. In that case, the amount of foreign aid will be less than the $500 billion in the first example, but will still be significant—a $125 billion gift every year from the Chinese people to the American people.
How will China generate this $125 billion in annual foreign aid to the United States? One way is to keep its currency undervalued to bring about the 20 percent discount on its products coming to America. Which then raises the question: If China is willing to undervalue its currency, and in the process provide approximately $125 billion of foreign aid annually to American consumers and businesses, what’s the problem? Why should we complain?
So why do so many Americans—including President Trump—complain about this subsidy from China? Because as with most everything else in economics, what is good for one interest group (e.g., American consumers who buy goods from China, especially the poor and working class) is not necessarily beneficial for another interest group (e.g., American producers who want to sell stuff to China). So why benefit one group over the other? As Perry says, “On net, there would be more harm to American consumers [in forcing China to revalue its currency] than benefits to American manufacturers, which would reduce our overall standard of living.”
More broadly I would say, along with Frédéric Bastiat, that for the good mankind, side with the consumer.