Why Doubt Free Trade With China?

On Wednesday Tony Abbott told The Age that he would make a free trade agreement with China less of a priority than one with Japan – because China, he pointed out, is not a market economy.

Of course, there’s nothing sacred about bilateral free trade agreements. They’re a poor cousin to multilateral agreements. They can be written well or poorly. A lot rides on their negotiation, and interest groups and rent seekers will want their say.

But the pros and cons of bilateral agreements plainly have little to do with the Opposition Leader’s scepticism about a trade deal with China.

Last week’s comments are not isolated. Abbott also wants tougher laws against anti-dumping, to penalise goods subsidised by foreign governments. With these policies, the Opposition Leader is close to endorsing retaliatory protectionism.

Abbott says he wants to ensure a “genuinely level playing field with a fair go for Australian companies”. In recent interviews, he has begun to talk not about “free trade” but “free and fair trade”.

Abbott is not alone. Barnaby Joyce also talks about his full-bodied support for free trade but only if it is “genuine” free trade. The AWU’s Paul Howes says, “If trade is going to be on, it’s got to be on a level playing field.”

Of course, the entire point of free trade is that the playing field isn’t level. The world isn’t flat. The world is very bumpy. Different products are made more efficiently at different places. Environmental, geographic and social conditions vary wildly. If anything, the process of globalisation has emphasised just how different parts of the world are.

Free trade is beneficial precisely because the world is heterogeneous, not homogenous.

This applies even when those differences are created by deliberate public policy choices, not “naturally”.

Yes, China is not a market economy. As John Lee pointed out in Crikey last week, it would be flattering to even call it a mixed economy. It is led and dominated by the state, rigged so state-owned enterprises are the main beneficiaries, and corrupted by industry plans and subsidies.

These are all bad things. But to retaliate – or, to use less-loaded language, compensate – by bumping up our trade barriers would be compounding one error upon another.

We should feel sorry for Chinese taxpayers when they are asked to stump up for ever more industry subsidies, not resentful of them. China is a developing country. Yet it is taxing its citizens in order to prop up businesses. Which then go sell their products below the market cost to rich countries. These subsidies are a direct wealth transfer from third-world taxpayers to first-world consumers.

As Professor of Economics Donald J Boudreaux describes this perverse strategy: “To make its country’s exports artificially more abundant and artificially less costly for foreigners to buy, a government taxes its citizens, effectively forcing people within that country to bestow benefits on people outside its boundaries.”

It’s tragic. But Australians are the beneficiaries of such misguided policies, not the losers.

There is no reason to believe the efforts of foreign governments to build industries using subsidies and industry plans will be any more effective for them than it has been for us – that is, it will be entirely fruitless and extremely expensive.

So foreign subsidies do nothing to undermine the case for free trade. Self-sufficiency is no virtue. Just as it is nonsensical for an individual to make everything they need themselves, it is nonsensical for countries as well. Free trade would be beneficial even if Australia was the only country in the world that believed in it.

The union movement offers one further objection to trade with China – the Chinese government artificially undervalues the yuan, deviously making their exports more competitive than if their currency had been floated.

Perhaps. Currency demagogues in the United States (where the strength of the yuan is a major political issue) have long pointed to the Economist’s Big Mac Index, which compares the price of the iconic hamburger around the world. It’s a rudimentary but evocative test of currency health. It measures a standardised product, allowing us some indicative comparisons. The Economist found the yuan could be undervalued as much as 44 per cent.

At least it did until the index was drastically revised this year. Big Macs should be cheaper in countries with low labour and land costs. The index was adjusted to take account of that obvious complication. Its revised data suggests the yuan is much less undervalued than everybody originally thought.

The Big Mac Index is certainly crude. But we know an artificially low yuan is bad for China itself. An undervalued currency is an effective subsidy to exporters at the expense of domestic consumers, raising the price of imports and increasing costs across the economy.

In the last 12 months domestic pressures have been getting more intense. The Chinese growth model is a ticking time bomb. What we’re seeing is not cunning manipulation of a currency to undermine international competitors. We’re seeing an economy teetering on the edge of the abyss – and Chinese policymakers know it.

It seems bizarre to claim economic self-harm in China justifies economic self-harm in Australia.

But that is exactly what Tony Abbott, Barnaby Joyce, Paul Howes and other free trade sceptics now recommend.