International School of Beijing
c/o American Embassy, Beijing
FPO San Francisco, CA 96655-0001
Editor
The Economist
25 St. Jame's Street
London SW1A 1HG
Dear Sir:
On December 1, 1988 I wrote you a letter regarding your article "Protectionism gets clever", (The Economist , November 12-18, 1988, p. 75), pointing out that there was another, and perhaps even more cogent argument for carefully calculated departures from the Free Trade norm not mentioned in your article. I enclosed a review written by a colleague at Monterrey Tech of my book on the subject of Second Best trade theory published by Universities Press in 1981 -- which you chose not to print). You did however run an another article a few short weeks later reasserting the standard Free Trade arguments, and insisting that even when one's trade partners are imposing trade constraints a country is nevertheless still better off following the Free Trade norm.
While it was not clear that this second article was a direct response to my arguments, your writer did refer to some crackpot contemporary neo-protectionist theorists, which I took quite personally, being convinced as I am that the theory of second best is neither crackpot nor protectionist. If your article was indeed a response to my argument, your writer grossly missed the point I was trying to make.
The December 10, 1990 issue of Business Week carries on page 14 an article by the respected American Economist Robert Kuttner. Kuttner cites a 1956 Lipsey/Lancaster paper The General Theory of the Second Best , of which I was regrettably unaware when I wrote about the same time my own analysis of Second Best under Professor Richard Caves at Harvard. When I read Kuttner's article I was motivated to write again, urging that your economics editor read the Kuttner article carefully, afterwards reconsidering the points made in my 1988 letter (repeated here for convenience). As we have been getting settled in here in China after moving from Mexico this letter has been necessarily delayed, but with the failure of the GATT talks, the great Savings and Loan disaster, looming commercial bank failures in the United States, a major recession deepening in the U.S. and Great Britain -- and now with the Gulf war threatening even greater economic disaster, there is a widespread and rising protectionist sentiment which we should all be concerned to channel productively lest we fall into the beggar my neighbor trap which set off the Great Depression of the 1930s. Be this as it may, it does not necessarily mean fecklessly chasing the Free Trade rainbow while the world goes down in another round of economic flames, whatever the Economist may think.
Lipsey and Lancaster make the same basic point, perhaps more cogently, which I was trying to make in my December 1, 1988 letter to you. As quoted by Kuttner, "Despite the theoretical promise that free markets will be perfectly efficient, the real world is not a textbook. It is full of necessary distortions, and piecemeal attempts to move closer to a pure market may make things worse [my own precise point]. Therefore we are often better off finding the best available "second best" rather than looking for an unobtainable first best. The 1980s, alas, are replete with proofs of the theorem."
In addition to the Lipsey/Lancaster argument that chasing the will-o-the-wisp of pure Free Trade may, in the face of the stubborn protectionism of others, only result in making matters worse, (a logic which when I made it failed to find a response among your staff who -- as Keynes warned tends often to be the case -- seem to be mired in the conventional economic wisdom of a generation ago), I asserted that in seeking reasoned second best solutions, nations such as the United States should go on the offensive, actively considering carefully calculated departures from the Free Trade norm (citing the examples of the Interest Equalization Tax and Domestic International Sales Corporation legislation of the 1960s as measures which had quite positive results). Another example was the French decision a few winters back to counter Japanese defense of their domestic market against French goods by, in retaliation, designating Poitiers as the unique point of entry for Japanese VCRs -- and assigning only a couple of lackadaisical customs agents (taking the traditional three hour French lunch break) to process the tens of thousands of Japanese made VCRs trying to enter France in time for the Christmas season. The French got a quick reaction from Japan. As Senator Gephart (then a Presidential candidate) once said, "When (one) stands up, others open up".
To return to the specific points made in my 1988 letter (which I hope in the light of some of your own more nuanced later articles you might now be inclined to take a closer look at), I urge you to add Second Best to the Optimum Tariff and Strategic exceptions highlighted in your article. And while readily agreeing that Free Trade leads to the highest level of welfare in circumstances in which all or most nations of the trading world accept and practice it -- one can still insist that there are at present such substantial departures from the Free Trade norm that attempts by a few dedicated free traders to apply the norm as "role model" can have decidedly perverse results. Indeed, it may result in distorting the world economy to the point that nations having a less comparative advantage may displace economies with greater comparative advantage.
As asserted in my December 1, 1988 letter, I remain personally convinced this has been the case with regard to the United States and Japan. Following its recovery from the war (during which period its protectionist behavior could be understood and accepted), Japan has continued to protect both its industry and agriculture against the far lower prices of American rice, citrus products, and meat, as well as American (and European) cars, electronics goods, and a wide variety of other products, not to mention persisting with its many sometimes quite esoteric non-tariff barriers. In the early '70s the American television industry was virtually eliminated by reason of Japanese predatory pricing and the slowness of Washington to recognize the problem. I was personally intrigued by the results obtained when, as already noted, France gave the Japanese a whiff of its own medicine, requiring for a time all Japanese VCRs to be cleared through a unique customs post in Poitiers. The U.S. and Britain would never do such a thing out of sense of obligation to uphold Simon pure Free Trade, whatever the costs to themselves.
The U.S. is, however belatedly waking up to the situation -- though we haven't quite yet got the theory right on what is happening and why. Perhaps this is because we are for the first time in history, because of Japan's unique way of structuring an interlocked manufacturing/distribution/retailing network, facing a major monopsonistic market. Thus out of desperation more than an understanding the problem we have begun negotiations with the Japanese with regard to what is being called the "Structural Disparities Initiative", which seems to add up to asking the Japs to quit being so efficient in manufacturing cars and VCRs rather than getting them to open up their markets to competitive US and European products. And what has the Economist had to say about that economically enlightened strategy?
What I am suggesting is a delaying counter-tactic a la Francais to hold some of our market for domestically produced goods which in a true Free Trade world might be able to survive, but when faced with a closed Japanese (Korean, Taiwanese) market(s), predatory pricing, and dumping tactics to gain market share, are forced to go under -- at least until the offending trade partner(s) open up. Then, however efficient their production of certain lines of goods, so be it. We'll all profit from their efficiency according to solid Free Trade logic.
I've already alluded to Senator Gephardt's remarks during his brief Presidential campaign about the $5,000 Chrysler "K" car which cannot sell in Japan by reason of Japan's enormous tariffs which increase its price to $48,000. As the Senator said "When we stand up, other countries open up". Two years ago Japan, under great pressure, finally agreed to admit citrus products and meat (though in accord with its normal delaying tactics it has been dragging its feet ever since). And, while one hoped at the time it would also open up its economy to rice and other products as well as banking and financial services, these hopes after two years of stalling have yet to materialize.
When I was American Alternate on the OECD Invisibles Transactions Committee in the late '60s I remember similar footdragging with regard to the sale of American movies, insurance, and the use of land/sea-going pickaback shipping containers on the part of our British, French, and Belgian trade partners. Fortunately there's been much movement in these fields since.
Notwithstanding the Economist' s opinion, I do not consider Second Best arguments "protectionist". Indeed, I see them as actually counter protectionist, reinforcing the belief that both protectionism and doctrinaire free trade in the face of protectionism, lead to third best situations. But when one's competitors won't listen to reason while maintaining a protectionist posture for themselves, it makes sense to impose some calculated departures from the Free Trade norm to arrive at a second best situation in which not only national, but international welfare is improved -- if, unfortunately, not to the full Free Trade level.
This is what the US did in the late '60s when, in response to European VAT rebates, we effectively introduced our own tax rebate through permitting creation of special Domestic International Sales Corporations (DISCs) delaying tax payments indefinitely.
What is paradoxical in introducing such Second Best departures from the Free Trade norm, is that one not only improves one's own welfare by a smidgin less than the ideal, but one also improves the welfare of one's trading partners. Thus, unlike the Krugman situation in which a country can benefit by subsidizing enough to discourage its partners from producing a given product, in the Second Best case both sides win by a shift in the direction of natural comparative advantage. Indeed, one hopes that seeing this improvement, the offending nation(s) may lower its/their trade barriers so that we can move on towards the Free Trade ideal. This important third point is not made in the Kuttner Business Week article, or, so far as I am aware, in the Lipsey/Lancaster Second Best paper. Professor Caves in approving my PhD work accepted it as my own contribution to economic wisdom.
Of course, as is often mentioned, there is always the possibility of unreflective retaliation, which would then return us to a third (or worse) best situation. But as I argued in a paper for President Bush, which belatedly seems to be receiving some attention, this is no reason to put up with the discrimination of trade partners apparently determined to take indefinite advantage of the good will of the US and Europe. Sincerely,
AmEmbassy - Bucharest
APO AE 09213-1315
August 26, 1994
Editor
The Economist
25 St. James Street
London SW1A 1HG
Dear Sir:
On December 1, 1988 I wrote you a letter regarding your article "Protectionism gets clever", (The Economist , November 12-18, 1988, p. 75), pointing out that there was another, and perhaps even more cogent argument for carefully calculated departures from the Free Trade
norm not mentioned in your article. I enclosed a review written by a colleague at Monterrey Tech of my book on the subject of Second Best trade theory published by Universities Press in 1981 -- which you chose not to print). You did however run an another article a few short weeks later reasserting the standard Free Trade arguments, and insisting that even when one's trade partners are imposing trade constraints a country is nevertheless still better off following the Free Trade norm.
While it was not clear that this second article was a direct response to my arguments, your writer did refer to some crackpot contemporary neo-protectionist theorists, which I took quite personally, being convinced as I am that the theory of second best is neither crackpot nor protectionist. If your article was indeed a response to my argument, your writer grossly missed the point I was trying to make.
I wrote again on December 30, 1990 referring to the December 10, 1990 issue of Business Week which carried on page 14 an article by the respected American Economist Robert Kuttner. Kuttner cites a 1956 Lipsey/Lancaster paper The General Theory of the Second Best , of which I was regrettably unaware when I wrote about the same time my own analysis of Second Best under Professor Richard Caves at Harvard. When I read Kuttner's article I was motivated to write you again, urging that your economics editor read the Kuttner article carefully, afterwards reconsidering the points made in my 1988 letter (which I will forbear from again repeating, but I do include a copy of my basic article which was published in the Southwestern Economic Review about that time).
With the third (or is it fourth) change of Prime Ministers in Japan (which seems to occur each time we seem to be approaching agreement on a reformed trade relationship), there is once more widespread and rising protectionist sentiment in Washington which we should all be concerned to channel productively lest we fall into the beggar my neighbor trap which set off the Great Depression of the 1930s. Be this as it may, it does not necessarily mean fecklessly chasing the Free Trade rainbow while the world goes down in another round of economic flames, whatever the Economist may think.
Lipsey and Lancaster make the point, perhaps more cogently, which I was trying to make in my December 1, 1988 letter to you. As quoted by Kuttner, "Despite the theoretical promise that free markets will be perfectly efficient, the real world is not a textbook. It is full of necessary distortions, and piecemeal attempts to move closer to a pure market may make things worse [my own precise point]. Therefore we are often better off finding the best available "second best" rather than looking for an unobtainable first best. The 1980s, alas, are replete with proofs of the theorem."
In addition to the Lipsey/Lancaster argument that chasing the will-o-the-wisp of pure Free Trade may, in the face of the stubborn protectionism of others, only result in making matters worse, (a logic which when I made it failed to find a response among your staff who -- as Keynes warned tends often to be the case -- seem to be mired in the conventional economic wisdom of a generation ago), I asserted that in seeking reasoned second best solutions, nations such as the United States should go on the offensive, actively considering carefully calculated departures from the Free Trade norm (citing the examples of the Interest Equalization Tax and Domestic International Sales Corporation legislation of the 1960s as measures which had quite positive results). Another example was the French decision a few winters back to counter Japanese defense of their domestic market against French goods by, in retaliation, designating Poitiers as the unique point of entry for Japanese VCRs -- and assigning only a couple of lackadaisical customs agents (taking the traditional three hour French lunch break) to process the tens of thousands of Japanese made VCRs trying to enter France in time for the Christmas season. The French got a quick reaction from Japan. As Senator Gephart (then a Presidential candidate) once said, "When (one) stands up, others open up".
To return to the specific points made in my 1988 letter (which I hope in the light of some of your own more nuanced later articles you might now be inclined to take a closer look at), I urge you to add Second Best to the Optimum Tariff and Strategic Exceptions highlighted in your article. And while readily agreeing that Free Trade leads to the highest level of welfare in circumstances in which all or most nations of the trading world accept and practice it -- one can still insist that there are at present such substantial departures from the Free Trade norm that attempts by a few dedicated free traders to apply the norm as "role model" can have decidedly perverse results. Indeed, it may result in distorting the world economy to the point that nations having a less comparative advantage may displace economies with greater comparative advantage.
Now, in the most recent issue of Foreign Affairs there appears another article, this time by Alan Tonelson called Beating Back Predatory Trade which makes many of the same arguments I've been trying to make for twenty years. I enclose a copy for your perusal.
As asserted in my previous letters I remain personally convinced that the U.S. has been suffering from a bad case of Japanese monopsony, brought on by its keiretsu structure which integrates production, financing, wholesale distribution, and retail outlets -- to the detriment of foreign suppliers, and its own consumers who are held ransom to the system.
Following Japan's recovery from the war (during which period its protectionist behavior could be understood and accepted), Japan has continued to protect both its industry and agriculture against the far lower prices of American rice, citrus products, and meat, as well as American (and European) cars, electronics goods, and a wide variety of other products, not to mention persisting with its many sometimes quite esoteric non-tariff barriers. In the early '70s the American television industry was virtually eliminated by reason of Japanese predatory pricing and the slowness of Washington to recognize the problem. I was personally intrigued by the results obtained when, as already noted, France gave the Japanese a whiff of its own medicine, requiring for a time all Japanese VCRs to be cleared through a unique customs post in Poitiers. The U.S. and Britain would never do such a thing out of sense of obligation to uphold Simon pure Free Trade, whatever the costs to themselves.
The U.S. is, however belatedly waking up to the situation -- though we haven't quite yet got the theory right on what is happening and why. Perhaps this is because we are for the first time in history, because of Japan's unique way of structuring an interlocked manufacturing/distribution/retailing network, facing a major monopsonistic market. Thus out of desperation more than an understanding the problem we have begun negotiations with the Japanese with regard to what is being called the "Structural Disparities Initiative", which seems to add up to asking the Japs to quit being so efficient in manufacturing cars and VCRs rather than getting them to open up their markets to competitive US and European products. And what has the Economist had to say about that economically enlightened strategy?
What I have suggested is a delaying counter-tactic a la Francais to hold some of our market for domestically produced goods which in a true Free Trade world might be able to survive, but when faced with a closed Japanese (Korean, Taiwanese) market(s), predatory pricing, and dumping tactics to gain market share, are forced to go under -- at least until the offending trade partner(s) open up. Then, however efficient their production of certain lines of goods, so be it. We'll all profit from their efficiency according to solid Free Trade logic.
I've alluded to Senator Gephardt's remarks during his brief Presidential campaign about the $5,000 Chrysler "K" car which cannot sell in Japan by reason of Japan's enormous tariffs which increase its price to $48,000. As the Senator said "When we stand up, other countries open up". Two years ago Japan, under great pressure, finally agreed to admit citrus products and meat (though in accord with its normal delaying tactics it has been dragging its feet ever since). And, while one hoped at the time it would also open up its economy to rice and other products as well as banking and financial services, these hopes after two years of stalling have yet to materialize. Tonelson provides several apposite examples of how such delaying tactics resulted not in weakening U.S. industry through inducing reliance on protection, but stimulated them to renewal and more vigorous competition.
When I was American Alternate on the OECD Invisibles Transactions Committee in the late '60s I remember similar footdragging with regard to the sale of American movies, insurance, and the use of land/sea-going pickaback shipping containers on the part of our British, French, and Belgian trade partners. Fortunately there's been much movement in these fields since.
Notwithstanding the Economist' s opinion, I do not consider Second Best arguments "protectionist". Indeed, I see them as actually counter protectionist, reinforcing the belief that both protectionism and doctrinaire free trade in the face of protectionism, lead to third best situations. But when one's competitors won't listen to reason while maintaining a protectionist posture for themselves, it makes sense to impose some calculated departures from the Free Trade norm to arrive at a second best situation in which not only national, but international welfare is improved -- if, unfortunately, not to the full Free Trade level.
This is what the US did in the late '60s when, in response to European VAT rebates, we effectively introduced our own tax rebate through permitting creation of special Domestic International Sales Corporations (DISCs) delaying tax payments indefinitely.
What is paradoxical in introducing such Second Best departures from the Free Trade norm, is that one not only improves one's own welfare by a smidgin less than the ideal, but one also improves the welfare of one's trading partners. Thus, unlike the Krugman situation in which a country can benefit by subsidizing enough to discourage its partners from producing a given product, in the Second Best case both sides win by a shift in the direction of natural comparative advantage. Indeed, one hopes that seeing this improvement, the offending nation(s) may lower its/their trade barriers so that we can move on towards the Free Trade ideal. This important third point is not made in the Kuttner Business Week article, or, so far as I am aware, in the Lipsey/Lancaster Second Best paper. Professor Caves in approving my PhD work accepted it as my own contribution to economic wisdom.
Of course, as is often mentioned, there is always the possibility of unreflective retaliation, which would then return us to a third (or worse) best situation. But as I argued in a paper for President Bush, which belatedly seems to be receiving some attention by Mr. Clinton's Trade Representative, this is no reason to put up with the discrimination of trade partners apparently determined to take indefinite advantage of the good will of the US and Europe.
Sincerely,
David B. Timmins, PhD (Harvard)
Professor of Finance & Economics (ret.)
AmEmbassy - Bucharest APO AE 09213-1315
October 18, 1994
Editor
The Economist
25 St. James Street
London SW1A 1HG
Attn: Clive Crook
Dear Sir:
I refer to my letter of August 26 and your full and informative reply of September 20, 1994.
I subscribe to The Economist and have been a regular reader for many years. But I travel a good deal and must have missed your April 1991 review of Kuttner's book End of Laissez Faire. I was pleased to receive the explanation that your rejection of my (and Kuttner's, Lipsey and Steiner's, and Alan Tonelson's) arguments for adoption of calculated departures from the (non-existent) Free Trade norm to redress the balance between keiretsu protected Japanese markets and the U.S. and Western Europe is based on subjective distrust of governments' abilities to devise and adequately implement appropriate and effective offsetting measures to market distortions, rather than failure to understand or accept Second Best Theory and the existence of major market imperfections as now accepted by an increasing number of advocates of nuanced, modern trade theory. This is a fully acceptable argument, based on differences of judgment about real world conditions, and restores my confidence in the theoretical soundness of my favorite magazine.
The Economist has a well-earned reputation for its ability to report complex topics in a concise and enlightening manner. Your publication of this letter would help set the record straight for other readers who may not have understood that The Economist's insistence on pursuit of essentially simon-pure Free Trade policy by enlightened nations like the U.S. and U.K. is more a matter of subjective evaluation of political realities rather than rejection of contemporary Second Best arguments for remediating severe market distortions by offsetting departures from the Free Trade norm.
Sincerely,
D. B. Timmins
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