|Free Trade Definition for the Freight Industry presented by Apparel Search|
Free trade is the unhindered flow of goods and services between countries, and is a name given to economic policies and parties supporting increases in such trade.
The relative costs, benefits and beneficiaries of free trade are debated by academics, economists, governments and interest groups. Aspects of the ongoing debate are addressed below.
Wider meaning of "Free Trade"
Free trade is a concept in economics and government that can refer to:
Depending on the specific context, use of the term free trade can signify one or more of the above conditions. In almost all cases, violations of the free trade conditions are due to government-imposed policies.
The term free trade has become very politically loaded, and it is not uncommon for so-called "free trade agreements" to impose additional trade restrictions. Such restrictions on trade are often due to domestic political pressure by powerful corporate, environmental or labor interest groups.
Free trade agreements are a key element of customs unions and free trade areas. The details and differences of these agreements are covered in their respective articles.
When free-exchange is not Free Trade
The World Trade Organisation was created to open up markets, and promote international trade based on the laissez faire 'Free Trade' paradigm. The WTO creates and monitors agreements to reduce trade barriers, and arbitrates in disputes over foreign market access, and violations of these agreements. Its definition of 'Free Trade' is trade On a level playing-field, so that the unlimited exchange of goods between countries is not necessarily 'Free'. If one of the countries producing Aircraft, say, subsidizes corporate R&D or enacts local-procurement regulations the WTO considers this a violation of Free Trade, even when the barriers to trade are not imposed at the national borders in an import-export transaction step (like a Tariff).
Totally Free Trade
Some economists (especially Libertarians) criticize the WTO's definition of 'Free Trade' as too narrow. They argue that a foreign Governmental producer-subsidy is another form of 'comparative advantage' and should not be used as a reason to impose domestic barriers on the purchase of overseas goods.
These economists argue that (since the surplus benefit to domestic consumers outweighs the surplus loss of domestic producers) the lower price of foreign subsidized goods is a net positive (as in the standard Ricardian argument) and the source of the 'comparative advantage' is irrelevant. Therefore, any import restriction (even on 'dumped goods') makes the domestic society as a whole worse off than it would be with unlimited imports (they say).
This 'abolitionist' position has had little governmental support in the developed world, due to the following considerations:
Arguments for free trade
In the history of free trade, two types of argument have been advanced in favor of allowing purchases from abroad, and "Free trade" in the broader sense. The first set of arguments are essentially economic, that free trade will make society richer (more propsperous in money terms). These are mostly technical arguments from the discipline of economics, starting especially with Smith's "Wealth of Nations", which overthrew the mercantile orthodoxy. The other set of arguments for free trade could be classified as "moral" arguments, which are pitched at a more high-minded level, some of these are listed below.
Economic arguments for free trade
Classical economic analysis indicates that free trade increases the global level of output (thus, increasing the global standard of living) because free trade permits specialization among countries. Specialization allows nations to devote their scarce resources to the production of the particular goods and services for which that nation has a comparative advantage. The benefits of specialization, coupled with economies of scale, increase the global production possibility frontier. An increase in the global production possibility frontier indicates that the absolute quantity of goods and services produced is highest under free trade.
Further classical analysis shows that not only are the absolute quantity of goods and services higher, but the particular combination of goods and services actually produced will yield the highest possible utility to global consumers.
Free trade policies are often associated with general laissez faire economic policies, which can allow for faster growth. Laissez faire policies the absence of government intervention in trade, entrepreneurship and investment is often positively correlated with high per capita income. Economic Freedom and Per Capita Income (http://www.heritage.org/research/features/index/downloads/economicFreedomandPerCapita.gif)
Reciprocal free trade is in exporter's interests
An early lobbying effort on behalf of free trade was made by the businessmen of the Anti-Corn Law League. Some of these gentlemen owned textile factories, and believed that repeal of the Corn Law import-ban would allow 1830s Britain to sell cotton clothing to wheat-exporting nations.
Although this argument is rooted in Mercantilism and producer self-interest it amounts to a voice in favor of free trade. See also: Reciprocal Trade Agreements Act.
In 1950 Jacob Viner showed that a trading block mutually lowering tarrifs would produce gains not merely on the demand side but also on the supply side. This was called trade creation, the benefits to the supply side as a whole accrue as resources are reallocated towards firms producing at the highest comparative advantage (among the partners) in each country.
Moral arguments in favor of free trade
The 18th and 19th century intellectuals who backed free trade rarely did so under the the rubric of increasing material wealth. In many cases this was given as the least important reason for free trade. Rather, they argued that international society would be improved by increased commerce. Some of these, and later, sociopolitical arguments are listed here.
Claim: Increased commerce means reduced war
The argument for free trade that commonly underlies neoliberal foreign policies can be made from the perspective of national security - it is seen by some policy analysts that countries that trade with each other are less likely to go to war due to the enormous cost of suddenly disrupting their trade abroad, particularly since they would be dependent on the world economy as a result of specialization and comparative advantage.
Qualitative analysis suggests that free trade encourages economic interdependence between countries, reducing the likelihood of war. However, the belief that free trade would reduce war was hypothetical rather than empirical (at least until the 1950s). Twenty-two years after Ricardo advanced his theories of comparative advantage they were used as justification by the British to start the Opium wars. Also, it is hard to know when the occurrence of free trade has prevented the outbreak of war, but easy to know when it hasn't; critics of free trade sometimes cite the First World War as an instance where developed, industrialized countries with reasonably extensive trade links abruptly broke off those trade links and entered into a particularly destructive war. It is an open question whether the First World War, its causes, and the economic environment that preceded it are sufficiently similar to the modern globalized economy to draw parallels between 1914 and 2005.
The fact that some wars have been fought between trading-partners does not prove that increased trade lowers the willingness to go to war, simply that however much it does so, other considerations sometimes overwhelm the economic. McDonald's is in the vanguard of global free trade, permitted to spread its brand of consumerism by the free trade in capital (its product is mostly sourced locally). Famously, only a single, short, war has been fought between any of the 122 countries having franchises. This fact might not be due to the ties of trade, but could still be attributed to the homogenizing effects of free trade, as identical consumers the world over see less reason to wage war on one another.
After the second world war many liberals said that the war's ultimate cause had been the restrictive trade practices of Nazi Germany and the British Empire. They thought that free trade would increase the likelihood of a lasting peace. Cordell Hull, the U.S. secretary of state until 1944, believed this, and argued that as trade barriers dovetail with war, so free trade does with peace. The post war consensus expressed at Bretton Woods was that government coordination was necessary to prevent trade wars and competitive devaluations, to ensure free trade and peace.
Trade broadens the mind
The quality and variety of produce available from international trade is much greater than the range that could ever be domestically produced in a single country. The wealthy always had access to such luxuries, but before free trade the experiences available to the average person were dramatically limited. (For example, the history of tourism or the Spice trade).
Critique: Tariffs sully the cause of patriotism
Adam Smith thought that all protectionist measures against free trade were scams on the public on behalf of producers, carried out in the name of nationalism. Even if the national economic interest had not been harmed by tariffs, he was opposed to them on the grounds that patriotism shouldn't be perverted by scoundrels to enrich themselves.
Tariffs are internally divisive
If producers are located in different parts of the country than consumers then price-raising tariffs will cause social distress in one region, and wealth in another. This was the cause of the U.S. Nullification crisis.
Does government have the moral right to restrain trade?
The modern libertarian position simply argues that any trade restraint is immoral a priori, since restricting the rights of sovereign consumers to purchase foreign-made goods is outside the competence of legitimate government. This is in the tradition of the anti-Corn Law radicals, like Richard Cobden, who concluded their 1838 parliamentary petition with an appeal to "negative liberty":
Claim: free trade reduces poverty
Conflating the "moral" and "economic" arguments are those campaigners who say that increased trade is the best way to relieve extreme poverty throughout the world. Opposing free trade, they argue, is tantamount to supporting economic injustice. (For instance, "The Economist" magazine sometimes runs controversial cover stories making this impassioned argument for free trade.)
The thrust of this point is that economic and moral issues cannot properly be separated, and that any other particular socioeconomic problems can be combated most effectively through rising living standards.
Bjrn Lomborg's Copenhagen Consensus on international development challenges ranked trade liberalization as third on the list of development priorities; the experts judged that modest costs could yield large benefits for developing nations. (They ranked freer trade as a "Very Good" opportunity for fighting misery along with cheap measures against HIV infection, micronutrient distribution, and anti-malarial programs.) The conference was of the opinion that reducing subsidies and tariffs would improve the wellbeing of the global poor being more than any agricultural, political, or environmental program. They considered that the free trade in labor would also be a significant (although less important) move against poverty, especially if skilled worker migration were permitted. The approach and conclusions of the "consensus" have been widely criticized, especially trade liberalization's high ranking.
The critics of "free trade"
This section lists some of the many modern critiques of free trade and its affects. Opponents of free trade often advocate an alternative policy known as fair trade: see that article for a detailed treatment. One important point in "fair trade theory" is that modern advocates for the poor are not typically against "free trade", they actually want more of it. For instance, the Indian government had an isolationist policy of economic independence, especially between the 1950s & 1980s, but, along with the governments of many developing nations, opted to reverse this and lobby for access to export markets (at firstly tentatively, but then decisively in the early 1990s under Manmohan Singh.) Therefore, much of the modern dispute over "free trade" is semantic; the official US interpretation of "free trade" is dramatically opposed to the Vietnamese interpretation (on the subject of catfish), but both governments are in favor of "free trade".
Arguments against free trade typically take one of two sorts: economic and sociopolitical. Economic arguments against free trade critique the assumptions or conclusions of the economic theories that support it. Sociopolitical arguments against free trade do not attack the mathematical and theoretical salience of free trade theory, but rather cite social and political effects that economics-based free trade arguments do not capture, such as social stability, political stability, cultural independence, and national security. Many sociopolitical critics of completely free trade support the economic conclusions of liberal trade policy in general, but are against it in specific cases.
Economic arguments against free trade
Free trade in raw materials retrogrades development
The argument that a country could get 'locked in' to serving the needs of the world market in raw materials, and therefore not develop industrially was first advanced by Friedrich List in 1841, and received empirical support in the 20th century. It was discovered that African and Arab nations rich in natural resources (e.g. diamonds and oil) developed less slowly than those nations without such 'bounty'. This is also a sociopolitical argument against free trade, because it is said that:
It was also discovered that developed nations uncovering natural resources could suffer as a result of free trade, and for similar reasons. The massive capital influx to Holland after it started exporting oil increased prices in the famous "Dutch disease".
Free trade between countries means the unhindered flow of goods and services between them, and is a name given to economic policies and parties supporting increases in such trade.
The relative costs, benefits and beneficiaries of free trade are debated by academics, economists, governments and interest groups. Aspects of the ongoing debate are addressed below.
International trade requires more resources to distribute
If food is purchased from the local farm it requires very little energy and possible no fuel to transport to the table. Delivering food produced on the other side of the world to a supermarket has an environmental impact because it requires a heavier use of fossil fuel in delivery from overseas. The organic food movement claims that there are other downsides to the globalization of the food market (for instance, that preserved food has an inferior taste).
Deep Green thinkers say that Free Trade claims to lead to the "full employment of resources", and strongly oppose Free Trade in the hope of discouraging the immediate depletion of the earth's resources.
Sheltering young industries may pay-off later
Main article: Infant industry argument
New Trade theorists challenge the assumption of diminishing returns to scale, and some argue that using protectionist measures to build up a huge industrial base in certain industries will then allow those sectors to dominate the world market. Less quantative forms of this "infant industry argument" against totally free trade have been advanced by trade theorists since at least 1848.
Modern free trade inequitably favors rich countries
Many anti-globalization campaigners argue that free trade allows developed nations to exploit developing nations and to destroy local industry.
The current implementation of free trade has been criticized by advocates of free trade itself (e.g. The Economist). One complaint is that developed nations tend to insist that developing nations open their markets to industrial and agricultural products from the developed world, yet refuse to open their markets to agricultural goods from the developing world. A prevalent line of reasoning against free trade is that trade barriers such as quotas and agricultural subsidies prevents farmers in the third world from competing in local and export markets. It is argued that this limits the ability of third world countries to develop.
The current concept of "free trade" supports the free movement of products and employers, but not the free movement of employees (i.e., labor - See also: Immigration.) This interpretation of "free trade" offers much greater freedom to people in developed countries than it does to people in the developing world. (The rich own most of the global corporations, and buy most of the traded products. The main asset of the poor is their labor, which they are unable to trade "freely".)
In the modern knowledge economy the goods and services 'exported' by developed nations are often intangible designs (such as 'medicinal formulae', 'trademarks', 'software', or entertainment content). The value of this Intellectual property (IP) is largely derived from the legal protection it enjoys from copying. Many advocates for the poor claim that the reason IP-rights are strongly protected in International trade is the economic power the developed world uses to protect the interests of their IP producers during trade negotiations. This is an especially emotive argument when applied in areas like AIDS medicine; WTO-signatory nations renounce the right to produce generic copies of life-saving pills, the only treatment widely affordable in developing nations.
A variation on this is the claim that free trade benefits wealthy people more than poor people within countries, because:
Free Trade increases outsourcing opportunities
Free trade allows companies the possibility of outsourcing the production of goods for domestic sale. The social, environmental, and labor standards imposed upon these companies can be less in foreign production than in domestic. Labor and environment advocates argue that Free Trade thereby creates the conditions that allow companies to circumvent domestic regulations, by producing in another jurisdiction. As free trade increases, the balance of power shifts in favor of companies and away from governments. This is widely accepted, and considered to pose a threat to democratic self-determination by anti-globalizers (and authoritarian control by totalitarian states). Free trade supporters argue firstly, that all countries have the right to opt out of the world market through isolationism, and secondly that companies are fictional persons who are taxed without representation, and that the balance of power should shift away from the governments that exploit them. It has also been argued that free trade hurts developed nations because it causes jobs from those nations to move to other countries, and accelerates the "race to the bottom". As well as reducing rich-country GDP through lost jobs, the argument goes that competitive pressures will undermine democracy by creating external pressures to lower wage demands, and legal protections like environmental and safety standards. The alleged "race to the bottom" is blamed on international competition to attract traded-goods production, which, with Free Trade, can be sited anywhere.
Free market supporters have called some of these arguments a "Lump of work fallacy".
The "Capital Mobility" Free Trade critique
Some descriptions of comparative advantage rest on a necessary condition of "capital immobility." If financial (or labor) resources can move between countries, then the comparative advantage theory erodes, and absolute advantage dominates. (For instance, the Heckscher-Ohlin model derives comparative advantage from differing relative abundances of capital & labor between countries. Capital mobility and the competitive drive for the highest return on investment would give all countries identical relative abundances for new investment, eliminating comparative advantage and trade.)
Given the liberalization of capital flows under free trade agreements of the 1990s, the condition of capital immobility no longer holds. David Korten and other economists argue that the theory of comparative advantage "is replaced by that of downward leveling". However, capital immobility is only one route to comparative advantage, useful to simple economic models, in order to make quantitative predictions, but not underlying it.
Early theoretical models assuming capital immobility were merely an expositional convenience that is not essential to the principle. Although greater capital mobility is likely to reduce comparative advantage, barriers to capital flow are not the only way to derive it; the following comparative advantages will still exist with complete capital mobility:
Sociopolitical arguments against free trade
Free trade is culturally destructive
The French government argues that allowing Hollywood movies to compete un-handicapped against French-made films would be culturally destructive. Free Trade in cultural work is limited on the grounds that otherwise, the French language, and the visibility of a particularly "French" perspective on the world would be threatened. Many other countries have advanced similar arguments against the free trade of cultural works (such as the US itself, in the import of certain censored work from Europe).
The French take a similar line on food imports: the import of agricultural produce competing with Gallic farmers is limited on the grounds that high food market prices are necessary to sustain rural France. This is seen as critical to preserving the national culture. As a relatively wealthy country, France is able to afford the cost of protecting its small farmers; most developing nations are not in the same position. Throughout the world, forces that many blame on free trade are eroding traditional ways of living and rural cultures. Critics of globalization see this as a much bigger problem than is accounted for by advocates of the free market. For instance, Sir James Goldsmith attacked free trade for causing the conversion of small-scale agriculture to large-scale agribusinesses across the developing world. He wrote:
In Canada many cultural nationalists argue that the North American Free Trade Agreement or any proposed extension could harm Canadian cultural content, mainly due to the fact that U.S. corporations (mainly magazines, television channels, and satellite providers) have been consistently challenging Canada's cultural content laws. These laws are popular among Canadians and encourage Canadian content in the Canadian media, something which foreign (mostly American) corporations charge is harmful to their businesses.
Free Trade causes social dislocations and emotional pain
Some suggest that free trade changes living conditions and careers too fast. Economic disruptions from "structural adjustment" once happened slowly enough that natural attrition (deaths and retirement from existing jobs) took care of the shift into new patterns of employment. At one time, a farmer could expect to finish her life as a farmer, although her children may have been forced to take up mining or manufacturing instead of farming. Now, changes happen on a sub-generation level, quicker than a natural-attrition rate.
Coping with these transitions can be very difficult, especially for those entering middle-age and the elderly, who tend to have a more difficult time making career changes, either due to age itself or age-related discrimination. The problems associated with adapting to economic change are generally not factored into the economic calculation of Free Trade's effects. (In economist's jargon these issues are "externalities", not factored into the calculations, such as: "A Graphical Argument Against Tariffs" above. Minimizing the average price of widgets is not necessarily the same as minimizing emotional disruptions.)
Welfare economics deals
with the question of the
overall benefit on society
of changes that harm some
and help others. In a straightforward,
utilitarian view; the generalized
benefits of cheaper supply
are given equal weight with
the more concentrated impact
Criticisms of imperialism sometimes focused on the way that imperial powers gained influence over weaker countries through specialization; weaker countries would develop areas, typically in resource extraction and agriculture, that would be economically dependent on the mother country. In the post-imperial world, this criticism changed somewhat; a few industrialized powers that controlled capital flows could, according to dependency theory, maintain their preferable economic status vis-a-vis their former colonies by using this economic dependency to their advantage. In theory, industrialized powers would have far greater choice - a more perfectly competitive market - in countries from which they could acquire basic resources than those countries would have in buying industrialized goods, particularly as industrialized countries had the bulk of the world's financial resources and if those industrialized countries chose to behave oligopolisticly. Such a pattern of exploitation - which may or may not lead to the benefit of even the industrialized nations, depending on the economic theory applied - focuses on the unique importance of political power in the international system and its particular weight in the decisions of policymakers.
The theory was popular during the Cold War in developing countries, particularly after the retreat of European empires from Africa and Asia. The citizens and policymakers of developing countries remembered the economic patterns of the imperial age and there was a strain of anti-colonial sentiment in many newly independent nations who sought national sovereignty for its own sake. Dependency theory was also popular in Latin America, which, although having been independent from its colonial rulers since the early nineteenth century, had in succeeding decades been often influenced by the economic interests of foreign countries, particularly France, the United Kingdom, and the United States.
The debate over the Corn Laws (grain tariffs) in the United Kingdom in the early nineteenth century provided one of the earliest instances of a principled, economically-based national debate over free trade. One of the chief arguments of the protectors of the Corn Laws was national security; Britain, they said, ought not be dependent on the import of grain to her country, or else she risked putting her national security in the hands of foreign countries. Countries upon whom Britain was dependent for grain could starve her even without instituting a blockade. This national security argument, the argument of David Ricardo's time, focused on the ability of free trade to threaten the sovereignty of a nation at war, while the dependency theory a century later would focus on the ability of free trade to threaten the sovereignty of a nation at peace.
To some extent, the Corn Laws' ultimate repeal refuted the dependency argument; because it was seen that a country (Ireland) might suffer more from total reliance on its own crop (the potato) than from the theoretical danger of dependence on foreign suppliers.
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had always been questioned
on the grounds that every
market in the entire world
would have to stop selling
at any price
for an importer to find
itself imperiled, unless
a blockade were used. It
was said that any nation
(especially England) unable
to defeat a blockade couldn't
hope to win a 19th century
war anyway. Although wars
were subsequently fought
over access to markets these
have always been markets
in commodities not domestically
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In the modern United States and in many developed Western countries, one of the chief arguments in favor of farm subsidies is a national security argument. The threats of bioterrorism and even unintended disease-causing agents has raised the possibility of poorly inspected food entering a country from another, presumably with less stringent food inspections. Like a number arguments against free trade, this argument rests on the inequity of government regulations across countries the world over, although some critics of the US food industry point out that the same argument is used whether or not the standards imposed actually are higher or lower abroad.
The advance of technology in the twentieth century has provided another source of anxiety about free trade. Trade in high-tech equipment can facilitate the implementation of advanced military technology in countries that may become strategic opponents later on. This argument is often compelling to policymakers in developed countries, and free trade rarely applies to military technology, and often special restrictions are placed even on advanced technology developed in the nonmilitary sector.
A final argument from national security is similar to the previous; if free trade encourages the development of a world market that equilibrates wages, industrialization, and productivity per laborer, this can amount to the armament of strategic opponents. This argument is often brought up in the context of United States-China trade relations; if the Chinese economy were to develop the same production per capita as the United States, China would be able to harness economic resources four-fold what the United States economy could, and, in theory, proportional military resources. Although this concern is widespread within the United States, the desire to keep a potential rival weak is not normally advanced within diplomatic circles.
Free trade creates dangerously porous borders
Terrorism in the broader sense frequently benefits from porous borders. Another common national security argument against free trade - this one often brought up in the context of the United States-Mexico border and the trading links between Europe and the Middle East and North Africa - points to the tendency of liberalized trade to encourage such porous borders. The radically increased volume of trade that passes over a given border can swamp border controls that were once sufficient before the implementation of freer trade. Even with sufficient border controls, it is considered that the cost of such border controls, both to the government and traders having to endure the time and expense of passing through them, could be prohibitive to trade.
Concern about uncontrolled immigration in the wake of free trade, and about legal immigration itself within trading blocks have added anti-immigration campaigners (not all of whom are xenophobic) to the lobby against free trade.
Rule of law and regulations
Although in David Ricardo's time economists regarded the regulatory powers of the state as being more destructive than beneficial, the economic shocks of the later nineteenth century, the early twentieth century and the Great Depression produced a strain of economists led by John Maynard Keynes who criticized laissez-faire capitalism as itself destructive. After the war these Keynesians assisted the state in the development of regulatory institutions that limited the excesses and mitigated the failures of the free market and which were intended to sustain free trade through regulation. The later twentieth century saw the development of new economic theories that criticized the stress on regulatory institutions, though it is an uncommon opinion even among modern neoclassical economists to wholly regard all such regulatory functions of state as damaging to the economy.
These regulatory institutions, and indeed the rule of law itself, are costs to the development of industries. Although a number of laws - the protection of property rights, for instance - are strongly beneficial to corporations interested in the development of an industry in a foreign country, many other laws, regulatory laws in particular, can produce litigation risks or greatly increase the cost of operating in that country. Environmental regulations, labor laws, minimum wages, safety regulations, and (arguably) basic human rights can effectively increase the cost of operating in a country. As a result, these regulations often lead to a competitive disadvantage in the world economy for countries implementing those laws.
Similar arguments can be made for tax laws; corporations can evade high taxes by moving operations to countries with lax tax structures. In countries where the integrity of the state is weak, there can be an incentive for corporations to subvert governments through corrupt means and further undermine the rule of law in those countries in their favor. Accounting, banking, and investment regulations can take a similar direction; countries very interested in attracting investment may laxen their financial institutions for short term political benefits. Some economists, such as Frederic Mishkin, point to this as an underlying cause of the Asian economic crisis of 1997-1998.
Many developing countries have not developed the financial institutions that developed countries rely on for the efficient functioning of their economies. The financial institutions that do exist in developing countries are often designed for economies with a strong role built for the state, and often with a great deal of corruption already existing. The influx of large amounts of investment capital from developed countries can put a considerable strain on financial institutions as they cope with enlarging their regulatory role, separating it from old state functions. The capital influx creates lucrative opportunities for corruption, especially within the regulating institutions. The development of these institutions runs a difficult course with investors who are interested both in the rule of law as it improves investment opportunities, and also in limiting their risk as investors. The development of these institutions can be a low priority for a poor county, which must bear the cost of modifying its business code, essentially for the benefit of foreign capitalists.
Free trade, then, creates an economic incentive for a race to the bottom in regulatory institutions; countries with lax, lenient, non-enforced, or selectively enforced regulatory legal structures will have a competitive advantage in attracting investment to their countries, and not merely in wages. From the capitalist's point of view, an ideal legal environment would have these features:
The difficulty that modern capital finds in meeting all of these conditions is that (1) and (2) are correlated with an immature legal system, but (3) and (4) are correlated with the division of powers, and long-standing legal institutions. As Russian oligarchs and early foreign direct investors in China discovered, the ability of an enterprise to make money is no guarantee that its profits can be retained. Some have argued that firms actually encourage (or at least prefer) the rule of law, judging that, on balance, it is "good for business". If so, the "Race to the bottom" may become a "Race to the middle" in legal enforcement, assisted by mobile capital, in order to create the optimum legal conditions for investment (balancing legal protections for labor and capital).
In theory, globally harmonized regulations regarding wages, the environment, safety, human rights, and other areas of economic control, would also prevent a "race to the bottom." Although globally harmonized regulations appear to be far off, there have been a number of moves toward regional agreements about these sorts of institutions.
The financial consequences of Mobile capital
The diversity of legal systems the world over and the limited degree to which those bureaucracies coordinate their regulatory and tax-collecting efforts can create loopholes to the benefit of corporations and private individuals, who can seek out havens from regulation and tax collection, even if they obey the letter of the law.
The freedom of capital to move outside the purview of a single authority has other harmful effects, even where it is not invested in the real economy. The following are common abuses of the free trade in capital:
One of the chief concerns among modern economists and financiers is to develop methods of harmonizing international regulatory institutions, in particular accounting practices, to improve transparency in world financial markets and reduce the risk experienced by investors.
Free trade and comparative advantage imply the development of specialized industries and profound economic change in countries that commit to such programs. Even apart from cultural concerns, these economic changes can lead to profound strains on societies that face considerable changes to traditional economic patterns, orthodoxies, and political systems. Social changes that Europe passed through over the course of centuries - urbanization, the development of national infrastructure, the development of individual property rights, secular and national government, centralized administration, the development of financial sectors, and far-reaching regulatory structures - can happen over the course of mere years in an economy newly exposed to free trade and capital flows.
Even the fundamental aspects of free trade and free capital flows - usury and property rights - can come into conflict with existing systems. Stipulations against usury remain strong particularly among conservative interest groups in parts of the Islamic world (see Islamic banking) and the development of Western-styled financial institutions which are often based on lending is itself an affront to some traditionalists. The impositionof property rights in places where there had been none before - such as in tribal areas where property is held communally - or where they existed in a pre-modern sense - such as in East Africa where they often exist without explicit titles and modern tools of surveying and enclosure - poses considerable difficulties for governments that are faced with the ancient concern of "who gets what." That question can arouse equally ancient concerns of justice, equity, class, and ethnic strife between groups that feel victimized by history. The issue of property rights in developing countries and their implications for free trade has been famously raised by the contemporary Peruvian economist Hernando de Soto.
Free trade can be profoundly redistributive, forcing thousands if not millions to change professions as trade competes their former ones out. In the United States and in many developed countries there are systems of trade adjustment assistance that help to smooth the transition for workers and industries from a pre-globalized economy to an economy transformed by free trade. In countries without those resources, a sense of victimization can rise in laborers displaced by trade that can contribute to a loss of confidence in national policy. It should be observed that even with trade adjustment assistance in the United States, some of the most outspoken resistance to free trade, in particular to the North American Free Trade Agreement, came from labor unions. Even with assistance to smooth a transition between economic structures, there can be resistance to change in the character of an industry for non-economic, social reasons.
Free trade can also change traditional relationships between classes, interest groups, religions, ethnicities, and economic interests that form a once stable, even if not prosperous, society. Balances of power and wealth between groups in society - a disproportionate share of power for a particular industry or group, a disproportionate share of wealth for another - can be shattered by free trade, which tends to be a top-down process that transforms relationships that once formed an implicit "agreement" between disparate groups about the share of power, law, and wealth in society.
Altogether, changes to the national economy can undermine the fragile social fabric of many developing countries. Critics of free trade often point to the fall of the Suharto government in Indonesia in the wake of the Asian economic crisis to describe free trade and its effect on sociopolitical stability. Defenders of free trade point to instability even in countries in autarky and the ability of trade, progress, and prosperity to heal old wounds even in developing countries.
Alternatives, and suggested improvements to, laissez faire trade
The perceived problems above have brought forth much advice from economists and politicians on possible 'solutions'. The typical political option is protectionism, but economist's suggestions have been more wide ranging, for instance...
The Tobin Tax
James Tobin suggest levying a 1% tax on all currency exchange in the FX markets. This was intended to stabilize exchange rates themselves, but a world-wide tax on currency exchange for purchasing imports or repatriating export profits would limit Free trade globally, in the same way that Tariffs reduce the import volume to individual countries (by raising transaction costs).