Tuesday, October 15, 2013

Balancing trade by tariff is a Keynsian approach

The previous policy recommendation of balancing trade by the use of tariffs, when the market mechanism are not working in a rapid enough manner to balance trade on its own, is a kind of Keynesian response to the problem.

The problem addressed by Keynesian economics is a recession, where unemployment is high and production is below the potential production levels.  The market forces will, in the long run, bring the production levels up and the unemployment levels down, but not in a timely manner that is acceptable to society.  And as Keynes said "in the long run, we are all dead".  Instead, Keynes argued that the government needs to take an active role in returning the economy to a level of its potential output and employment to normal levels.

Similarly, the imbalance of trade over long periods, and in particular, the running of trade deficits over those long periods, also causes economic dislocations that are adverse to the economic prosperity of society and long term economic growth.  Thus, the government must also take an active approach in dealing with the long term trade deficits by taking actions which will move trade back to a state of balance.  The government needs to approach long term trade imbalances with the same urgency as it does recessions.

The previous post examined the time scale of the long term run of trade deficits and found that the deficits had continued for many decades, and it would be at least 50 years, and probably much longer, before any market mechanism caused anual trade to return to a balanced condition.  This did not include the additional time needed to run surpluses to pay down the accumulated trade debt, which we can only assume would be a similar time scale of decades.  It also looked at the time scale of the beginning of adverse effects of these deficits and found that they start to occur in only one to few years, which is much less than the time scale over which the market actions are operating   Thus, some action needed by the federal government to counter these trade deficits and return trade to a balanced condition within a few years of the beginning of persistent trade deficits.

The Great Depression showed that government intervention is required when the difference between what the economy could do and what it is doing is great.  Similarly, the Great Recession has shown that the government can't ignore trade when dealing with a recession, but needs to address trade imbalances when they become persistent to avoid the harmful dislocations that long term deficits produce.

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