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Tuesday, October 6, 2015

Can Trade be Balanced and Equal?

With the notion of free trade, many see the need to ensure that trade is "balanced" and it is "fair". Politicians will state that, "We need fair trade practices with [Fill in the blank country]" While these seem to be reasonable ideals, are they realistic? Are they practical? Can free trade be "unfair"?

What is Trade? 

Before exploring if free trade is "unfair", let us explore the notion of trade.  Free Trade is simply the exchange of goods and services between two parties, without coercion or restraint from outsiders.(e.g Government) For example, if I go to the store to purchase a can of black olives, I provide my dollars, in exchange, for the black olives on the store's shelf. This is an simple example of trade. This does not change in the aggregate, as the aggregate is simply a collection of the aforementioned "trades" in the marketplace. Also, countries do not engage in "trade", individuals in those respective countries engage in trade. Suppose I purchase a new Nissan 350Z, and it is made in Japan. I am not trading with Japan no more than Nissan is trading with the United States. It is a simple trade between Nissan and me. I purchase the 350z with cash, in exchange, for the 350Z.

Why does Trade take place? 

People seek to improve their position in life. Economists call this behavior: "Utility seeking behavior".  Humans seek to improve their position in life for their "selfish" desires, goals, dreams and aspirations. While engaging in that process, trade will occur.  Individuals, or actors, in the marketplace will trade goods of "lessor" value for goods that will improve their lot in life, or they have greater value.

Is Trade Equal?

Let us go back to the example of the black olives purchase from earlier in this analysis. Suppose the can of black olives is $5. In this exchange, I give my $5 to the store, and the store, in turn, gives me the can of black olives. From a bookkeeping and accounting standpoint, this trade is equal, as debits and credits balance: $5 debit to cash, $5 credit to Revenue for the store.

On the surface, this is an equal trade. All debits and credits equal, thus there is no trade surplus or deficit. This works in a similar fashion in the aggregate. Commentators and experts lament about having a "trade deficit" or "trade surplus". Their analysis typically is one sided. They only focus on one side or one variable in the equation. Staying with the black olive theme, the experts would state: "The Store sells more black olives as compared to Robert! There is a trade deficit! We must place tariffs on The Store's black olives."  But, is this trade really "equal"?

Is Trade Unequal? 

From an accounting/bookkeeping standpoint, trade is equal. However, Economics is not accounting. Accounting is about the explicit costs/benefits, Economic analysis is about qualitative "costs/benefits". Going back to our Black Olive example, on the surface, the trade is equal. $5 dollars for $5 worth of black olives. But, using Economic analysis, one must look at the value or "utility" ranking of these items. It is quite clear that the person with the $5 values the $5 less than he/she values acquiring the can of black olives. On the other side of the ledger, the store values the $5 more than the black olives, thus the sale of the black olives. Both parties value the black olives unequally, and they also value the $5 unequally. Thus, from an economic perspective, the trade is unequal. However, the trade is unequal simply because value is subjective. Each party values their respective item differently.  It is not truly something that can be quantified. The money/currency measurement is simply a method of accounting/bookkeeping.

Conclusion

Critics of international trade mistakenly believe that trade is unbalanced from an accounting perspective. It is not, as shown here in our analysis. From an economic perspective, it is subjective, making it unequal. Without trade, mankind can not progress. Free trade is the pith of the human existence. One person is an excellent farmer, and sells his fruit and veggies at the farmer's market to individuals who are not skilled at planting crops. All of us are blessed with skills that others do not have, making the trade unequal, but quite fair.





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