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Free Trade Today
Jagdish Bhagwati

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THE merit of free trade was discovered and disclosed by Adam Smith in his monumental work The Wealth of Nations (though, as with Newton and Leibniz on calculus, we must recognize the remarkable work of Abbé de Condillac, whose essay Commerce and Government was published in the same year as The Wealth of Nations and is a far more elegant and sharp statement of this case).1 The rationale for free trade is thus over two centuries old. Building his case on the gains from trade to be had from specialization reflecting the division of labor, Smith had the essence of the argument right. But it was left to David Ricardo (building on James Mill) to clinch the case formally. Ricardo used a stripped-down model--only one factor of production with constant productivity of labor in two goods, but with relative productivity between the goods different across two countries--to show that both countries could gain from trade via specialization.2 The Ricardian analysis implied that this "technical possibility" of gaining from trade would be realized if a policy of free trade were adopted in an institutional setting where prices guided resource allocation. But the analytically satisfactory proofs of trade's benefits that we modern economists demand are the handiwork of theorists working in the twentieth century.3

Why Free Trade Fails to Persuade

But if the heuristically quite persuasive (and for its time even scientifically compelling) Smith-Ricardo demonstration of the gains from trade via specialization and the associated case for free trade was to win approval from a majority of economists in nearly every generation since the publication of The Wealth of Nations, it is also a fact that it has only infrequently carried credibility with the populace at large. Why?

Part of the reason has to do with the counterintuitive nature of the argument that free trade leads to greater good. When asked by the mathematician Stanislaw Ulam (the brother of the great historian Adam Ulam) which proposition in the social sciences was the most counterintuitive yet compelling, Paul Samuelson chose the law of comparative advantage: in other words, the underlying argument for free trade. Most people think it intuitively sound that you should do most things that you do better than others, not specialize. Then again, they seem to attach an infinite weight to jobs that they lose to trade and zero weight to jobs that are created and which they might obtain, in an optical illusion that reflects the way some experimental psychologists think we think when confronted with change.

Today, however, free trade is the target of a growing anti-capitalist and antiglobalization agitation among the young that derives from what I like to call the tyranny of the missing alternative. The collapse of communism, the ideological system that rivaled capitalism, and the rise of Fukuyama-led triumphalism about markets and capitalism4 have created an intolerable void among the idealist young whose social conscience is attuned to the conviction that capitalism is a source of injustice. They do not see that capitalism can destroy privilege and open up economic opportunity to the many. I wonder how many of them are aware that Mrs. Thatcher was a grocer's daughter and that, with all her failings, her leadership of the Conservative Party saw the rise to high levels of many who had, not a BBC accent or an inherited title, but simply merit. How many understand that socialist planning in countries like India, aimed at replacing markets with quantitative allocations, often accentuated, instead of reducing, unequal access because the latter meant queues that the well-connected and well-endowed could jump with their moneys, whereas the former allowed a larger number to get to the desired targets?5 The untutored conviction that markets and capitalism are to be equated with social injustice has fueled the frustration that spills over into the street theater staged against free trade and its principal institution, the World Trade Organization.

Then again, many students in literature and sociology in the English-speaking world on both sides of the Atlantic have been captivated and captured by the poststructural deconstructionism associated with the French philosopher Jacques Derrida, leaving many among them, principally because of its advocacy of an "endless horizon of meanings," without any anchor. As Terry Eagleton, the sympathetic chronicler of modern developments in literary theory, has said eloquently:6 "Derrida is clearly out to do more than develop new techniques of reading: deconstruction is for him an ultimately political practice, an attempt to dismantle the logic by which a particular system of thought, and behind that a whole system of political structures and social institutions, maintains its force." By deconstructing any political ideology, the Derridean technique can lay before itself a political wasteland where belief and action yield to cynicism and anarchism. This leads equally to the paradox that a highly intellectual theory feeds anti-intellectual attitudes, including a distrust of, and hostility to, economic expertise and the "elitism" of economists.

Permit me to tell just three anecdotes to illustrate what I mean. In a debate at the Smithsonian Institute in Washington, D.C., that I had with Lori Wallach, an architect of the Seattle protests and Ralph Nader's chief aide on trade issues, she argued that my expertise on trade entitled me to no more attention by the GATT (General Agreement on Tariffs and Trade) or the WTO than she demanded for herself.

I must also recall that Sylvia Nasar, the former New York Times economics reporter, once told me that students in her class at the Columbia School of Journalism had told her that "Bhagwati stands for special interests as much as the unions do; he speaks for free trade and for the GATT." In short, we economists may profess expertise; but we really serve masters and interests that can be deconstructed from our arguments and advocacy.

Then again, I should retell the amusing story of how militant students at Heidelberg during the years of the Vietnam War declared that expertise was the enemy of genuine democracy and argued that democracy therefore required that professors teach courses that they knew nothing about, so that they and the students could start with equal ignorance, and hence without unequal power, on their journey towards knowledge. I must confess that I would have opted for this brilliant suggestion. It would mean that I would not have to exert myself to harness my knowledge to lecture to my students, so that I would be on perpetual sabbatical, something that some of my tenured colleagues (who must naturally remain unnamed) have been enjoying for years without the benefit of the Heidelberg doctrine!

But let me say also that the case for free trade in the public domain has suffered from neglect because few of us have been prepared to enter the fray in its defense. Faced with the critics of free trade, economists have generally reacted with contempt and indifference, refusing to get into the public arena to engage the critics in battle. I was in a public debate with Ralph Nader on the campus of Cornell University a couple of years ago. The debate was in the evening, and in the afternoon I gave a technical talk on free trade to the graduate students of economics. I asked, at its end, how many were going to the debate, and not one hand went up. Why, I asked. The typical reaction was: why waste one's time? As a consequence, of the nearly thousand students who jammed the theater where the debate was held, the vast majority were anti-free traders, all rooting for Mr. Nader. I managed pretty well, but I must confess that the episode brought home to me that unless we confront these misguided critics, the public-policy stage will be occupied solely by the critics of free trade, and then politicians cannot be blamed for having to listen and attend to the chorus of free trade's critics.

This task of ceaselessly defending our scientific findings in favor of free trade (and indeed of other economic wisdom) is an obligation that I teach tirelessly to my students, not just in emulation of their teacher, but in exercise of their own talents and conscience. Thus, among them, I must cite in particular the distinguished writings in the media of Paul Krugman (my remarkable MIT student) and Douglas Irwin (my gifted Columbia student).7 But that is still not an army that, unlike Russell Crowe in the film Gladiator with his Roman legions, I can "command" and that we need.

When I was at Seattle and facing a tough Chinese Red Guards-style female demonstrator who was blocking my way illegally down a road and threatening me with bodily harm if I persisted, my good friend Gary Sampson (a distinguished trade economist, formerly of the GATT and WTO) drew me away from a confrontation that would have surely left me bloodied, saying, "You are the foremost free trader today; we cannot afford to lose you!" It was meant to be funny, and it was. But it also was a pointed reference that there were not too many of us out there, fighting the fight for free trade. We need to change that.

I would be remiss, however, if I do not also record here the fallacy of aggregation that has made large segments of the public today gratuitously more skeptical of free trade worldwide thanks illogically to the dramatic recent financial crises in the world economy. For reasons that are difficult to fathom, the antiglobalization agitationists seem to think that globalization is some sort of gigantic blob of a concept or phenomenon where every element necessarily implies every other and that if you are for free trade, you must also be for free short-term capital flows, for free direct foreign investment, for free immigration, for free love, for free whatever!8

So, if the imprudently hasty and unregulated freeing of financial flows helped create the panic-fed Asian financial crisis, then somehow that is also a reason to dread and to oppose freer trade. Indeed, any substantial international financial crisis, in this way of seeing things, is an argument against freer trade. Thus, the American critics of NAFTA (North American Free Trade Agreement) have pointed to the November 1994 peso crisis as justifying their hostility to NAFTA. Similarly, I have been surprised that even sophisticated economists who are distrustful of globalization, such as Dani Rodrik of Harvard, have occasionally argued as if the need to fix the world financial system because of recurring financial crises implies also that the world trade system needs to be fixed.9

Conventional Dissent from Within: Key Role of Market Failure or Distortions

But it would be a big mistake to think that the case for free trade has been assailed by doubts only from outside the sanctum. Indeed, from Adam Smith's time, major economists have abandoned the cause of free trade, reflecting intellectual developments that often interacted with, and at times were even triggered by, the economic events and concerns of the time. In fact, it is remarkable that the cry of a "crisis" in free trade has been raised over the last two centuries by economists as diverse and renowned as John Maynard Keynes (who led the critics) and John Hicks (who lamented the crisis instead).

In each of these instances, which I shall proceed presently to review, the key element causing the crisis for free trade was the presence of a "market failure" or what, following my work and terminology introduced in the 1960s, is also characterized as the presence of a "distortion."

Heuristically, the argument is best seen as follows. The case for free trade rests on the extension to an open economy of the case for market-determined allocation of resources. If market prices reflect "true" or social costs, then clearly Adam Smith's invisible hand can be trusted to guide us to efficiency; and free trade can correspondingly be shown to be the optimal way to choose trade (and associated domestic production). But if markets do not work well, or are absent or incomplete, then the invisible hand may point in the wrong direction: free trade cannot then be asserted to be the best policy. Theoretically, this leads to the first of two key insights or propositions of the postwar theory of commercial policy.10

In the presence of market failure (i.e., distortion), free trade is not necessarily the best policy.

One (in my view, unimportant) implication is that, since free trade equilibrium in such a distorted economy is clearly suboptimal, an infinitesimal tariff would generally improve welfare, thus yielding a "second-best" argument for protection.

The other implication, of course, is that one can generate, by postulating a yet different market failure, an endless number of cases where freeing trade from an arbitrarily given level of protection is harmful rather than helpful, immiserizing rather than enriching.

This latter implication is, in fact, key to understanding the occasional crises in the case for free trade that plagued the profession over two centuries of economic thought and policy analysis.

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File created: 8/7/2007

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