Markets are more knowledgeable than intellectuals

One principal takeaway from my previous essay for AIER is that the negative impact of imports on some domestic producers is not really what economists call a “negative externality.” That is, the negative consequences of fellow citizens choosing to buy more imports – consequences such as the loss of particular jobs and the bankrupting of particular firms in the domestic economy – are not violations of anyone’s property rights and, thus, are not properly called “negative externalities.” No ethical, economic, or legal harm has been committed and, thus, there’s no need, even in principle, for a government remedy.

Article by Donald J. Boudreaux from AIER.

Here I wish to go further and explain that it is a mistake to assert that the market fails to take adequate account of the full impact of expanding trade with foreigners. The motive for me to offer this explanation comes from an email sent to me by Mr. Jeremy T____ in response to my previous essay.

Here’s the core of Jeremy’s e-mail:

You [Boudreaux] ignored the fact the market attaches no value to job stability and the natural human desire that many have not to have to move out of our community simply to get a decent job. You ignore the market not considering the effects of cheap imports on these meaningful variables.

Jeremy’s allegation that under a policy of free trade the market ignores certain values that are important to people reminds me very much of Oren Cass’s objection to free markets and free trade. But this allegation is mistaken.

Under a policy of free trade, the market does not ignore the value that workers place on job stability or on remaining in their communities. It simply requires people who want more of these “meaningful variables” to pay for them.

First Glances Give Inadequate Understanding

At first glance, my claim that the markets account for the value that workers place on job stability or on remaining in their communities seem indefensible. After all, when Sarah in Sarasota chooses to buy lower-priced bed sheets imported from Malaysia rather than buy pricier sheets woven in Dalton, Georgia, Sarah is indeed thinking only of herself and her family. Attracted by the lower price of the imported bed sheets, Sarah buys those. She never thinks about the workers in Dalton who will lose their current jobs, or of the mill owners who might go bankrupt, because of her self-interested action.

Not only are these consequences not considered by Sarah, they’re not considered by the Malaysian textile firm that sells its output to American importers. These negative consequences are ignored also by the American importers and by retailers, such as Walmart, who offer these imports for sale to final consumers. Thus, it seems at first glance that the market really does ignore a significant negative consequence of imports.

But economics is about getting pictures that are much more complete and accurate than are the impressions gotten by first glances. And economics reveals that Sarah’s decision to purchase the lower-priced imported sheets is key to how the market both informs producers and consumers everywhere of the increased global supply of textiles, and imposes on individuals the obligation to pay fully to exercise their preferences regarding the consumption as well as the production of textiles.

When Sarah and other consumers switch to buying lower-priced imported textiles (and, hence, buy fewer textiles produced in Dalton), they push down the prices that mill owners in Dalton can fetch for their outputs. These lower prices reveal the reality that textiles are now more abundant and so it’s no longer worthwhile to pay as much as before to produce textiles in Dalton.

The fall in prices for the outputs of Dalton’s textile mills, therefore, is an instance of the market working rather than of the market failing. With these falling prices, the market imposes upon – “internalizes” on – textile mill workers in Dalton the value of keeping their jobs. If those workers truly valued their mill jobs, or valued job stability, highly enough, they would be willing to work for lower wages in order to keep these jobs.

Workers have the Option of Keeping Their Jobs

Yet workers – in Dalton and elsewhere in wealthy market economies – generally do no such thing. They choose instead not to work at those particular jobs at lower pay. This fact is significant. It means that workers in Dalton are not unilaterally cast into the ranks of the unemployed by Sarah’s and other consumers’ decisions to buy imported textile products. Instead, these consumer decisions, conveyed in the form of lower textile prices, inform workers in Dalton that the value to fellow human beings (including to fellow Americans) of their existing efforts exerted in textile mills has fallen. Workers in Dalton thus have the option of working for lower wages at those jobs or losing those jobs and going in search of higher-paying jobs elsewhere.

The fact that nearly all workers today refuse to take pay cuts to retain their current jobs is a sign, not of market failure, but of the fact that workers generally believe that their other options are superior to working at lower pay in their current jobs. These other options include, of course, other jobs. But they also include retirement, living off of one’s family and friends, or living off of private charity or public assistance. The more attractive are these other options, the less attractive will workers find the option of keeping their current jobs at lower wages.

None of the above is to suggest that it’s not unpleasant to discover that fellow citizens have lowered the value that they attach to your current productive activities. Nor is it to suggest that adjusting to this discovery is easy. But it is to say that the market does indeed take account of the value to workers of their existing jobs. The very fact that most workers refuse to take pay cuts in order to keep their existing jobs reveals that these workers in fact do not value those jobs highly enough to keep them.

If government imposes tariffs to discourage Sarah and other consumers from buying imports, the result might be that textile workers in Dalton keep their jobs without having to take pay cuts. But notice the reason. The tariffs effectively compel Sarah and other consumers to subsidize jobs in Dalton textile mills. The textile workers themselves don’t value these jobs highly enough to keep them at their true market value, so protectionism is used to compel consumers to pay those workers to remain in jobs that those workers would otherwise quit.

Far from correcting a market failure, tariffs generate outcomes that mimic market failure. In this example, tariffs subsidize textile mill workers to remain in jobs not only that are not sufficiently productive to justify, but that the workers themselves would abandon if they had to bear the full cost of staying in those jobs.

Nothing is easier than for intellectuals to express displeasure with the observed manner in which individuals make trade-offs, and then to assert that this manner of making trade-offs implies a market failure. But assertions are not analyses. When analyzed carefully through the lens of economics, the need for producers to adjust to changes in consumer tastes and opportunities is seen to be, not evidence of markets failing, but of markets successfully taking into account as fully as possible the costs and benefits of alternative uses of scarce resources, including labor.