Managerial Application 163

Free Trade Helps Everyone

In the early 1990s, backers of the North American Free Trade Agreement (NAFTA) argued that free trade would open Mexico's economy, causing a surge in exports from the United States and Canada. It was also argued that NAFTA would reduce illegal immigration by raising the standard of living for Mexican workers. The case against NAFTA was most forcefully carried by the former head of Electronic Data Systems, ex-presidential candidate Ross Perot. It was Perot's suggestion of "a giant sucking sound" that fueled the debate. That's the sound one would supposedly hear as, in one great whoosh, the United States lost millions of jobs to low-wage Mexicans. Happily, the economic facts are more positive than the political rhetoric.

When NAFTA went into effect on January 1, 1994, the United States and Canada already had a free trade agreement. NAFTA merely extended that agreement to include Mexico and permit duty-free and quota-free movement of goods across all of North America. Perhaps the most glaring irony of the NAFTA debate is that much of the job opportunity loss feared by Perot and other critics failed to materialize. When productivity differences are considered, Mexican labor is no cheaper than higher-priced but more efficient labor from the United States and Canada.

The economic facts are obvious. Free trade is enormously beneficial to all Americans, whether they be from Canada, Mexico, or the United States. Before NAFTA, the tariff imposed by the United States on Mexican goods averaged about 4 percent, while the tariff imposed by Mexico on U.S. goods averaged about 11 percent. With NAFTA, Mexican, U.S., and Canadian export industries and their workers benefit enormously from the increased access across national boundaries that follows from the abolition of all such tariffs. To extend the many benefits of free and open trade, Congress is now considering bills that would extend NAFTA privileges to Caribbean nations. Such a pact would make way for broad trade agreements that might encompass the southern hemisphere and eventually our European and Asian trade partners as well.

With free trade, economic activity flows to where business is most efficient in producing the high-quality goods and services that customers demand. It is a fact that every business day, talented and well-educated U.S. workers compete effectively with low-wage competitors.

See: Damian Milverton, "U.S. Says NAFTA Partners Agree to Accelerate Tariff Cuts," The Wall Street Journal Online, January 9, 2002 (http://online.wsj.com).

crowding out

Reduction in private investment associated with an increase in government spending expenditures to the period in which the credit applies. However, if they merely shift capital spending from one period to another rather than increase the overall amount of investment, the positive effect on economic growth will be limited.

Changes in government purchases may also have limited effects on total spending. For example, if an appropriation for the construction of a new highway system is not accompanied by a corresponding increase in tax revenues, the budget deficit and government borrowing will increase. Such an increase in government borrowing can put upward pressure on interest rates and discourage investment spending, thus offsetting at least part of the increase in total demand resulting from the construction project. The reduction in private and consumption investment associated with an increase in government spending is known as the crowding out phenomenon. Given the already enormous public-sector budgets of the 1990s, further increases in government spending can create tighter conditions in credit markets and exacerbate the crowding out problem.

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