As you know, some of the best intelligence comes from unexpected places. Recently my client Khushro Ghandhi and I were talking about politics and the market. To say I get an education every time I speak with him would be an understatement, as you’ll soon see. One day, to make his point he said to me “E.J., believe me I know how the left thinks, I was one of them, I’m a reformed Marxist!” That got my attention. I love my conversations with Khushro because what he says is from his heart. He has learned his beliefs from personal inflection, studying, and not being afraid to question “the system.” Here Kushro explains how Donald Trump’s skepticism of the benefits of free trade may not be such a new idea in the Republican Party.
The American System
By Khushro Ghandhi
In a discussion with teachers of American History, the subject of teaching “protectionism” came up. I recommended Pat Buchanan’s book “The Great Betrayal” as the best popular book on the history of American trade policy I know. I myself became aware of this aspect of American history in the seventies well before Buchanan wrote the book, so I can say with some assurance that Buchanan presents the history fairly and is consistent with good scholarship on the matter, though it is certainly a work of advocacy.
When protectionism is discussed, the issue of the “Smoot-Hawley Tariff” usually arises, often described as being a cause of the Depression of the 1930s. Milton Friedman’s work in the 1950s largely laid that ghost to rest: Friedman pointed instead to failures at the Federal Reserve. In fact the U.S. was the most protectionist nation on earth during its period of greatest growth from 1792-1929.
Modern “conservatives” are mostly against protectionism or “neo-mercantilism” and for what they describe as “free trade.” Whatever one may think of the policy it is not “conservative” if by “conservative” is meant the traditional policy of the Republican Party and its predecessors, the Whig Party and the Federalist Party, all three of which were “protectionist.” As far as I can tell, the change on the part of conservatives from protectionism to free trade is first clear in the “new right” of Buckley and National Review in the 1950s, which on this issue at least, was decidedly NOT “conservative” in the sense of traditional Republican Party policy. The reason for the shift? Thinkers of that time, including Buchanan, were impressed with the problem of “big government” typified by Fascism, Communism and the New Deal. In looking back into the roots of American thought on central government they concluded that Jefferson rather than Hamilton had been right on this issue of the danger of centralized government (a point with which I have some sympathy). Consequently, they rejected the Hamilton, Clay, Lincoln tradition of the Republican Party as it had existed until 1930 and adopted a Jeffersonian point of view, which is dominant among conservatives to this day. The question is whether their difference with Hamilton on the dangers of central government should have been extended to the specific issue of tariffs, which practically defined Republican Party economic policy (which could be summarized as free enterprise, internal improvements and tariffs).
In the Nineteenth century the fundamental divide on economic policy was between free trade, which American Whigs called “the British System” and protectionism, which Whigs called “The American System.” The British system was epitomized by the writings of Malthus and Ricardo. The American system, tracing its roots to Adam Smith, was grounded in Alexander Hamilton’s famous “Report on Manufactures,” which he wrote as Washington’s Treasury Secretary and which became policy under Washington and Adams. Jefferson and Madison were initially for free trade (as was the South generally) but both later switched to a nationalist trade position (after the war of 1812). Protectionism was the policy especially of Henry Clay and Lincoln. Key economists in the U.S. who expanded on Hamilton’s writings were Matthew Carey, a Hamilton protégé, and his son Henry Carey who was an advisor to Pennsylvania Iron and Steel interests, who were in turn key to Lincoln’s election (Lincoln’s First Inaugural Address is focused on the tariff at least as much as slavery).
Carey’s work “The Harmony of Interests” (as opposed to the notion of Ricardo and Marx that classes had fundamentally antagonistic interests) is a great book and was extremely influential at the time. It is impossible to distil this work in a few sentences, but the premise is that the world is not one of diminishing resources (Malthus) but the opposite. The interests of industry and labor are ultimately identical in a national system based on protection. A protected market was essential to the growth of nascent industry (protected especially from the British) and to labor which in America was already the highest paid in the world and unprotected could not compete with the cheap European labor–a tariff was essential to put American labor on equal footing with foreign labor. Thus, the Whig and Republican parties, based on protection, were business labor alliance parties. The separation of business and labor into two parties did not become a fixed feature of our political life until FDR.
A young German immigrant, Friedrich Liszt, came to America and studied with Henry Carey. He returned to Germany and became the most influential economist in that country, becoming the mover behind the “Zollverein” or German customs union. Germany under an American inspired protection policy went from a relatively backward economy in the 1840s to become the near industrial equal of Britain by 1914. Japan also, under the Meiji Emperor, consciously modeled their economic policy after the protectionist “national system” of the United States, and went from a quasi-feudal economy in 1865 to defeating Russia in 1905 (turning former Samurai families like Honda, Mitsubishi and Toyota from warrior clans into industrial conglomerates). In all three cases, the U.S., Germany and Japan, the rates of growth achieved were unprecedented.
Whatever one thinks of Donald Trump otherwise, his position is the traditional Republican position on trade.
Which policy is best economically? Naturally, that question can’t be settled here. That a national policy can work is indisputable, as history shows. However, all major schools of economic thought in the post-World War II era believe that free trade is the optimal policy, and this is also a conclusion, a theoretical one, that we cannot possibly settle here. Still, “optimal” for them means optimal for the world economy, not for any one specific national sector. Modern economics, presenting itself as objective and scientific, no longer presents itself as “Political Economy” or “National Economy.” Along with their aspiration for an “objective scientific” status comes an internationalist perspective. Nations, borders and cultures play no role in their calculations by design. Economics is studied as a system of abstract relations between interchangeable people and parts. Even if in theory this is optimal for the world economy, it is quite indifferent to the parts of the world economy which may suffer in service of global optimization. Naturally, those parts may take this a bit more personally than abstract parts ought to, as we are seeing unfold across the western world today.
I will just note the following: in the long run the defining factor in economics is growth and it is hard to argue that trade does not enhance growth. In the short run however, economic models are based on scarcity and equilibrium. It was understood by Carey and Republicans in the nineteenth century that free trade meant lowering U.S. manufacturing output and wages, pure and simple, breaking the social contract between business and labor. Reverting to a simple model of equilibrium, if we have a tank of water divided by a gate, with two different levels of water in each half (wages), then lifting that gate will result in one tank with one water level. The lower will rise and the higher will fall. Supporters of trade restriction today will argue that is precisely what has happened respecting wage levels between the U.S. and China over the last twenty years, and that is what the policies of the Federalist, Whig and Republican parties were designed to avert.
P.S. The question of Ronald Reagan’s thinking always comes up in debates among conservatives–a kind of “what would Ronald Reagan do” sort of thinking. Reagan, shaped very much by post- war conservative thought, campaigned as a free trader. However, once in office his administration when confronted with actual trade issues–auto, steel, electronics–split into two factions. On the one side “academic” or “free trade utopians”, and on the other the businessmen, who leaned protectionist. In the end Reagan became the most protectionist president since Hoover. Below is a link to a Cato Institute study of the Reagan record on trade. Note that Cato is libertarian and so is committed to a pure free trade position. The author of the study, pro-Reagan no doubt, complains that Reagan strayed from a pure free trade position, as indeed he did.
Khushro Ghandhi is a C.P.A. specializing in small business and a member of the Board of Directors of Saint Monica Academy, a private Catholic Classical academy. In the early seventies he was a Marxist; his view of Marxian economics was, unusually, opposed to “New Left” and Malthusian interpretations. Marx accepted the conclusions of David Ricardo that Capitalism ultimately lead to stifling “the productive forces” (growth) and concluded that capitalism had to be replaced by socialism for unfettered growth to occur. Ironically, it was studying Marx’s letters and articles in American newspapers that revealed a school of American economists opposed to Marx, Ricardo and Malthus–a school of economics seldom referred to in contemporary debates. After studying nineteenth century “American System” economists he concluded that capitalism as practiced in America was an unsurpassed engine of economic growth, and suffered from none of the “contradictions” claimed by Ricardo and Marx. By 1980 he was a supporter of Ronald Reagan and a proponent of what would come to be called the “Strategic Defense Initiative.”