Chapter 31
Measure of Trade
International trade should allow the world to be efficient and provide more and better things to people. However, it does not always work that way because trade causes domestic disruptions and that pulls politics and policy into the equation. If Canadians can buy Spanish wine that is cheaper and better than their wine, people with capital invested in the Canadian wine industry will not be happy. This may lead to the Canadian wine industry complaining to politicians that then get involved and trade then becomes quite complicated, even though it should not be. Tariffs and quotas might get imposed and you could imagine that in this hypothetical example an entire sub-industry evolves that uses capital to keep trade barriers in place to protect the Canadian wine makers, rather than getting the industry to focus on how to make Canadian wine more competitive (which might be a tough task). Even when free trade zones are formed, bureaucratic cultures grow up making them operate less freely and imposing more rules.
Despite government caused distortions in trade, the data on trade can be a good indicator of the economic direction of various countries. Usually these figures get released more frequently and are sometimes considered more accurate than gross domestic product (GDP) data. Trade data is a good tool to use to compare and contrast the different key economic forces when comparing countries’ economies. Some countries and regions are much more dependent on international trade than others. In the Post-World War II era, for example, Europe has generally been more dependent on trade than many other regions, while the United States has been much less dependent.
Cross-border trade has almost always been a part of economic history and was written about as far back as the ancient Greek philosophers.96 A major explosion in trade has happened since the 1970s. The onslaught of technology, improvements in tracking and transportation, as well as high speed communication have all played a huge role in increasing trade. However, the change in the currency regime that took place in the 1970s played a significant role as well. In 1971, the major currency markets moved from fixed exchange rates that had been in place roughly since the end of World War II to a regime of floating rates. The ability of currencies to fluctuate in value based on demand allowed for better adjustments in exchange rates relative to trade. This appears to have resulted in a greater and more agile transfer of capital across borders. The free floating exchange rate regime certainly brings some other positives and negatives, but it has allowed for much greater flexibility in the relative value of products. Some writers also point to improved geopolitical relationships as having helped trade increase. However, one could turn it around just as easily and say the increased intertwining of trade between countries has improved geopolitical relationships. Transportation and communication improvements have been crucial to increased trade in goods and services. In the trade of goods, the basics of transportation costs always make proximity matter. In the trade of services, proximity can matter less, but commonalities like language and time zones can play more of a factor. Despite much conversation about China and the United States as two of the world’s largest trading partners, neighbors still tend to be some of the biggest trading partners for most countries. Geographically designed trade agreements like NAFTA that link Canada, Mexico, and the United States together or the European Union (EU) can further strengthen this geographically driven flow of trade in goods. There are other variations of regional trade agreements as well, like the Alianza del Pacífico (Pacific Alliance) that link four Pacific Ocean facing Latin American countries together to try to forge more trade with Asian Pacific countries. Many of these organizations have grown their focus beyond just trade. The EU has expanded past their initial focus on trade and economic enhancement and now appears to try to change all aspects of people’s lives within their region. This can cause the organizations to become politically unpopular and political pressure can mount to unravel what initially was a positive economic relationship. The EU has moved to the point of undertaking actions that are sometimes seen as anti-sovereign, such as passing proclamations and regulations on topics from how countries should restructure their banks or run their judiciary all the way to making it illegal to sell eggs by the dozen rather than by weight or not allowing labels on water bottles to claim they can prevent dehydration.97,98
Trading agreements, for many years, were increasingly unilateral in nature. These agreements involved a number of countries and usually took years of negotiating before an alliance would be finalized. This is often advantageous for countries with small economies as they tend to have the most to gain from being part of a larger body. Increasingly there has been a push to do more bilateral, one-to-one, international trade agreements; in theory these agreements could be more customized and work well as they address the specific relationships between the two countries.
International trade in services requires many different facets than trade in goods. Service trade requires significant communication and legal scrutiny as it involves things like intellectual property and copyrights. Common language, economic rules and infrastructure between countries can help improve trade in services. In many developed countries, there has been significant growth in services as percentage of total trade and this has caused greater differences in the mix of trade by country. Cross-border trade in services appears as if it may not be as accurately measured as trade data involving goods. This could be distorting some of the value of trade data when used to analyze economic activity.
In many countries, including the United States, there is a monthly report on international trade in goods and services. The report typically breaks-out exports and imports and further cuts up each of those categories by goods and services. The relatively rapid report time, compared to other economic reports, means these trade reports can give significant insight into economic trends. In the United States the report gets its goods data from actual transactions; therefore, the timing of transactions from month to month can skew numbers. Export figures typically include cost of transportation, while import figures use what is referred to as custom value, or the value that would be declared at customs. Services are measured by a survey of companies and associations. Therefore it would appear that the more services data that show up in trade reports increases, the likelihood that the figures are inaccurate. Given the changes to the global flow of information, international trade in services, almost by definition, will be more digitized may not be as easy to track, and may be done on more of a peer-to-peer basis. It would seem reasonable that a good percentage of this will likely not be captured in reporting figures. On a quarterly basis trade figures are rolled up into a report on the current account balance. This report is much less timely than the monthly trade reports. However, one of the major values in the quarterly reports is that it includes data on the flow of capital. It has an income account for things such as gains in the holdings of foreign stocks as well as loans from country to country and direct government aid flows.
There has been a push by many organizations focused on trade policy to change how trade is measured, at least as a tool for analyzing trade agreements and flows of goods and services. The methodology that is often being championed is known as value-added trade and it can be a valuable tool to understand economic drivers and international interdependency. Understanding these connections has become more critical as global supply chains have become larger and more vital to corporations and economies. However, it is hard for any of the studies to keep up with the dynamism that exists in the modern supply chains.
Value-added trade does demonstrate how complex trade has changed. As an example, in the past a car may have been made in Japan and then shipped and sold to a car dealer in Australia. For illustrative purposes the example will be kept in Australian dollars. If we imagine an Australian auto dealer paid A$10,000 for the car from Japan, that amount showed up in the trade figures between Japan and Australia. However, now that car might get its parts from a thousand different locations due to the global value supply chain. The axles might come from Mexico, a brake system from Singapore, and it all gets assembled in Japan. If all the parts that were imported into Japan cost A$9,000, then after the assembly was completed in Japan it was sold to the Australian car dealer for A$10,000. The Japanese sale of the car to the Australian dealer would be counted as A$1,000 in value-added trade between Japan and Australia. Australia still spends A$10,000 on imports but it only shows A$1,000 of this trade with Japan. This methodology can clearly start to change how countries think about policy, especially on a bilateral basis. It also changes how analysts should think about the revenue truly flowing into Japan. This methodology also illustrates why “net” balance of trade numbers between exports and imports are typically what make headlines and draw comments from politicians. Jason Dedrick of Syracuse University has studied supply chains and in a 2012 presentation he wrote that in the supply chain for a $299 iPod, he estimates that there is $144 of the value that shows up as part of the United States trade deficit with China, but China only adds $5 in to the product.99
The globalization of trade has changed the roadmap for how many lesser developed countries look to gain wealth. At one point the model to advance a country’s economy was to build a deep and diversified industrial base like Germany, Japan, and the United States. This takes enormous time, requires capital flow, and a certain amount of sheer human capital or natural resources to make this practicable. Globalization of business has allowed an economy to try to specialize to capture part of the global supply chain and this can become a realistic route to success in improving the wealth of a country. A nation could focus on manufacturing semi-conductors, circuit boards or car parts. Specialization and dependence on other countries corporations to make end products can cause a country to lose some control over its economy, but this is a decision each nation can make. Over-dependence on a narrow sleeve of business can become a risk, but a reasonable plan should allow for some diversification even in a relatively small economy. Open economies that can be part of global trade generally do better than closed economies, even if they are dependent on a fairly narrow set of businesses. If you think of examples, closed economies such as North Korea or Venezuela, under the policies of Hugo Chavez, have not had a great economic track record.
Globalization changes risk analysis. It can expose even large domestic economies to disruptions that occur in other regions of the world that they may have little control over. If planned and utilized properly, however, global trade can allow for multiple sources and quick reaction time to changes and disruption, which can minimize the impact of natural or geopolitical problems. When bad events do happen globalization can give an economy more optionality in its paths to recovery after a disaster. Concern about trade and control can lead to policy mistakes or a desire of policy makers to limit trade which can cause economic distortions. Utilization of globalized trade impacts the valuations of corporate assets. In many cases design, logistical skills, marketing, and product placement drives more of the value at a corporation than the actual manufacturing process does now. Companies in the middle of the supply chain have less control over demand for their products as they are not interacting or managing the final customers.