It is striking to see a generally well-respected figure like Robert Lightheizer recommend the radical policy of capital controls, not just for the US but generally. Wall Street Journal reporter and one-time Fed whisperer Greg Ip published a lengthy interview with Lightheizer last week, focusing on his views on trade and his advocacy of capital controls as a way to achieve balanced trade. This is a radical idea; iIn the post World War II era, capital controls have been deployed either in emerging economies in some degree of trouble or in China to prevent capital flight. The Ip coverage suggests that if Trump wins, capital controls will be on the policy menu. We’ll discuss below why we think this is not such a hot idea.
Lightheizer was one of the few Trump Administration officials seen as competent. He was Trump’s Trade Representative, and as the Ip piece reminded readers, very influential. He was the architect of the Trump trade tariffs against China. Despite having been widely criticized at the time as ineffective to counterproductive, they were nevertheless kept in place by Biden.
It is important to recognize that fairly open trade and capital movements are historical anomalies, and that high levels of international money flows are highly correlated with severe financial crises. And the resolution is most often a paradigm breakdown rather than successful reforms. We had that when the period of highly open trade in the runup to the Great War resulted in a breakdown during the conflict. MIT economist Peter Temin has argued that the effort in the 1920s to reconstitute the gold standard system is what precipitated the Great Depression. That in combination with the threat of communism led to many countries implementing social democratic policies which prioritized domestic wage growth. As we saw under neoliberalism, that was perceived to harm competitiveness, not of the US per se but of our pet multinationals. And here we are, having offshored lots of our manufacturing and lost not just capacity but also skills. So many policy makers effectively want to undo that. But ideas like capital controls are quick fixes that do little to address the root causes of loss of capability.
Interestingly, the damage done by hronically unbalanced trade was what led Keynes to recommend his bancor at the Bretton Woods conference. But the Keynes idea never got off the ground, presumably for the way it imposed costs on chronic trade deficit countries and even more so on chronic surplus countries.
Now to the Ip story. Lightheizer has a mainly sound analysis of the trade problem from a US perspective. From the article:
Despite the change in policy since 2016, global-trade imbalances persist, notably the U.S. deficit and China’s surplus. Lighthizer thinks the elimination of these imbalances via tariffs, and perhaps other tools such as capital controls, ought to be the overarching goal of U.S. trade policy.
“I have migrated from thinking we need superficial fair trade to realizing that that is unachievable, and what we really need is balanced trade,” Lighthizer said in an interview in Palm Beach, Fla., where he lives a few miles from Mar-a-Lago. “Not balanced every year and with every country, but over time and globally.”
He added: “Every country should be exporting in order to import. If you’re running chronic surpluses for decades, then you are by definition a protectionist. You’re engaging in industrial policy to help yourself, you’re transferring resources from your consumers to your producers, you’re trying to … acquire other countries’ assets.”
These used to be called beggar-thy-neighbor policies, he said, “and they have to stop.”…
From the early 1990s until 2016, presidents of both parties pursued freer trade in the belief that consumers would have access to cheaper goods and U.S. workers could sell to bigger markets. Trade pacts would also strengthen political and strategic ties with the U.S.
Lighthizer, who got his start serving President Ronald Reagan, never bought into either premise. “No one really believes in (free trade) outside the Anglo-American world, and no one practices it,” he wrote in “No Trade is Free: Changing Course, Taking on China, and Helping America’s Workers.” In deals struck from the 1990s on, “American policy makers effectively decided to let the rest of the world make our trade policy.”
Here Lightheizer does not acknowledge that freer trade is, as Bill Greider stressed, managed trade. There is no such thing as free trade. Exporters still need to meet standards, particularly product safety and other requirements, of the target country. Financial services, a substantial category of US services exports, is on the whole heavily regulated. The US has also insisted on and gotten an intellectual property regime very favorable to Hollywood and Silicon Valley implemented in much of the world.
And that’s before getting to the fact, as we mentioned above, that the more open trade regime (which actually started way before, such as with Mexico’s maquiladoras, which were already a significant factor for the US auto industry and some other manufacturing sectors such as air conditioners as of the early 1980s) was to promote the interests of US multinationals. Even though NAFTA touts like Robert Reich represented otherwise, the Stopler-Samuelson theorem effectively predicted that high-wage factory jobs would be the loser, as did the great economist Ross Perot:
We have got to stop sending jobs overseas. It’s pretty simple: If you’re paying $12, $13, $14 an hour for factory workers and you can move your factory South of the border, pay a dollar an hour for labor, … have no health care—that’s the most expensive single element in making a car— have no environmental controls, no pollution controls and no retirement, and you don’t care about anything but making money, there will be a giant sucking sound going south.
… when (Mexico’s) jobs come up from a dollar an hour to six dollars an hour, and ours go down to six dollars an hour, and then it’s leveled again. But in the meantime, you’ve wrecked the country with these kinds of deals.
When it became evident that the US was losing jobs and capacity, the fallback position was to pretend that “smart” policies could turn around the impact on low wage workers, with “let them eat training” combined with exhortations that they needed to move where the jobs were….as if they miraculously had the resources to pay for relocation and housing with no income during an employment search, even before getting to the question of whether they could even secure regular paid work in a strange city.
This is a long-winded way of saying that for Lighthizer to pretend the US, which during this entire time period of US de-industrialization was the world’s leading economic and military power, was a victim of nefarious mercantilists, is nonsense. We did this to ourselves for the benefit of particular industries, as in capital.
That also means that another claim of Lightheizer, that other countries are taking advantage of us via having industrial policy, is equally ridiculous. The US heavily subsidizes Big Pharma, real estate, higher education (not in a remotely economically productive manner; it’s a massive PMC job creation program), and arms makers, for instance. The fact that we don’t do so with an eye to international competitiveness is our problem, not our trade partners.
Having said that, Lightheizer is not wrong to say China (like Germany before them) is creating politically and economically destabilizing trade surpluses by suppressing consumption. The Japanese wound up there back in their heyday by virtue of having such itty-bitty apartments that they could not buy much stuff even if they wanted to. Again from the Journal:
Economists still disagree with Lighthizer on deficits, which they see as the natural outcome when a high-saving country like China trades with a high-consuming country like the U.S.
Lighthizer agrees that deficits reflect savings differentials, but not that they are natural. Rather, they result from other countries’ policies that suppress consumption and subsidize exports. An example: Germany’s early-2000s labor reforms which, along with the adoption of the euro, suppressed German wages and rewarded exporters.
An important influence is Peking University finance professor Michael Pettis, who has written extensively on how China’s suppression of consumption dictates that it run a trade surplus and other countries run deficits. As deficit countries lose incomes, they must either accept higher unemployment or increase debt to replace lost spending power.
Mainstream economists increasingly agree China’s surpluses are harmful…
What to do? (Treasury Secretary Janet) Yellen suggested China expand retirement benefits or spend more on education to bolster consumption. Beijing politely dismissed her complaints as protectionism.
A big problem here is the US does a terrible job of making its case. Sustained big trade surpluses are eventually self-defeating. They either lead the deficit country to eventually block trade, cutting off access and leaving the exporter with surplus capacity and job cuts, and/or result in the chronic exporter holding lots of financial chits in the deficit nation and being increasingly unhappy about that….when they created that outcome. Recall the 2015 Greece bailout negotiation, when the right-thinking consensus was that Germany was harming the Eurozone with its persistent trade surpluses? Germany like China saw its surpluses as the result of Teutonic virtue and chose to omit the part where its wage suppression also played a role. Germany further increasingly and vocally resented that it had shipped perfectly good goods to the likes of Greece and all it was getting back were financial claims. But that is inherent to that deal!
Not that China would listen, but its policies are inherently self limiting. And dogged pursuit of them is not likely to result in a very good end game. But with the US so openly hostile to China, even if we had a very sound argument, there’s no reason for Chinese officials to believe us. And even putting that to one side, the US has never exhibited any concern about the impact of our policies on other countries, witness our famed indifference as to the impact of our interest rate changes on other nations. So it’s not as if we have done anything to earn good will from other countries now that we are on the receiving end of their economic actions.
Now back to the capital controls remedy. The reason I am not keen is twofold. First, the most recent major examples of where they were deployed and well-studied afterwards are Malaysia and Thailand in the early 2000s, after the Asian crisis. Many critics contend that the economic success that happened after their implementation is a mere correlation and not the result of the capital controls. The biggest fact in support of that view is that nearly all of the capital flight took place (and it was substantial) before the policies were implemented.
A fairer-minded, and more analytically rigorous account comes from the Asian Development Bank. One problem I have with this and other studies I found on a quick search is that they don’t articulate well what the capital controls were intended to achieve. The Asian Development Bank said that neither one of the capital controls succeeded in controlling the value of the currency, which suggests that was a major aim. However, the study indicates each regime did achieve some positive, albeit different, outcomes.
Clearly, the US is not a smallish developing economy. Capital controls by the US (beyond pretty modest ones) would throw a monster wrench in the mobile capital regime, which revolves around the US dollar. So it’s not hard to see this as causing failures among banks that wrong-footed this development, and potentially cascading failures. And how do multinationals operate?
Lightheizer seems to be engaging in the same sort of fallacious thinking that operates among Green New Deal types. They think that the status quo can be kept largely intact as long as the right combination of incentives and restrictions are put in place. But the US can’t force balanced trade on other parties. We depend on many critical supplies from China, from pharmaceuticals to ascorbic acid. The idea that we can capital controls magic that way is spurious. Like finding a way for something dimly resembling civilization to survive the current climate change/resource limits/species loss crisis, what would be required is a long-term program of root and branch restructuring of the US economy based on explicit priorities that both parties embrace. In highly complex systems, following simple paths to desired outcomes usually backfires, as we saw with Western sanctions against Russia. Capital controls, ex as part of a vastly bigger initiative (and then as a secondary tool) are likely to suffer the same fate.
