Clausing's Open: The Economist as Social Engineer

Life as a professional economist can be frustrating. Indeed, most of the insights of economics are simple and beautiful. In a world of scarcity, everything has an opportunity cost. People respond to incentives.  Demand curves slope downward. Exchange built on specialization according to comparative advantage makes both parties better off.

Alas, conventional wisdom often flies in the face of economics. Any undergraduate economics student worth her salt can explain the redistribution and inefficiency of a tariff, subsidy, or price control. Yet international trade is constantly under threat and markets are the sandbox of eager social engineers.

Enter Kimberly Clausing’s refreshing and timely book, Open: The Progressive Case for Free Trade, Immigration, and Global Capital (Harvard University Press, 2019). This book is useful for the strong case it makes in favor of free movement of goods, people and capital. It is also an example of civility and polite engagement.

Clausing makes the classic case for international trade: we live in a world of scarcity, so every activity has an opportunity cost. We could satisfy our individual wants by consuming what we produce, but this would lead to an inefficient and poor world, as we are engaging in high opportunity-cost activities. If we all specialize according to comparative advantage, and trade with each other, overall production increases and all participants – including relatively inefficient producers – benefit. Clausing deftly makes the case for international trade: what applies to two individuals applies to multiple individuals, to regions within a country, and countries within the world.

Economics is full of mysteries. Almost all economists object to price controls… except for money. Almost all economists object to barriers to trade… except when that trade is in people or capital. Somehow, the laws of economics do not apply to immigration and capital flows, just as market dynamics don’t apply to the money supply.

Clausing does not succumb to such fallacies. Instead, she extends her case for the free movement of goods across borders, applying much of the same logic to capital and to people. She explains that foreign direct investment dwarfs international trade, with the same positive effects, especially for the receiving country.  Likewise, Clausing makes a strong case for more open immigration; the labor forces in emigrant and immigrant countries are typically complements, so both countries benefit. She also explains that reducing barriers to immigration would have a vastly bigger effect on world GDP and receiving country GDP than would lowering trade barriers. Clausing does not go all the way, and never espouses completely open borders (which would move from simple economics to complex politics); rather, she suggests lowering immigration barriers; giving an automatic green card to foreign graduates of US universities, and simplifying a path to citizenship for illegal aliens.

Clausing is to be applauded for her clarity, and for making a full-throated apologia for openness. Alas, she makes two pretty fundamental mistakes in the prescription that follows her paean to trade. First, she vastly exaggerates the economic hardship of American workers and the bugaboo of inequality. Second, when she doffs her economist’s hat and dons the mantle of the social engineer, she forgets many of the insights of economics.

Clausing is ultimately not motivated by economic efficiency. Rather, she worries that “the plight of the American worker is very real”: globalization has increased income inequality in the US and left behind the workers whose skills are structurally obsolete.

Clausing is so convinced that income inequality and the decline of the middle class are real that she does not make a strong case for either. Income inequality did indeed increase over the past 40 years in the US.  The middle class now earns about 6 per cent less of a national income that has grown by a factor of three. The mean income of the middle three income quintiles rose by 15 per cent, 21 per cent, and 36 per cent respectively. What is more, the price of all consumer goods (with the crucial exception of education, housing, and healthcare, which are three of the most regulated and subsidized sectors) has fallen dramatically, from computing power to food, and from safer cars to better housing. In absolute terms, it is hard to see how steady increases in income amount to the “most pressing economic problems in modern-day America,” just because the top quintile grew even richer than the middle class.

Clausing simply assumes that income inequality is a big problem (to her credit, she does argue that income inequality can lead to populism at the bottom and cronyism at the top). But the case of China illustrates why income inequality is not, per se, a problem. Clausing worries about the rise in income inequality in China over the past four decades. Consider, however, that in 1980, China was recovering from the horrors of Mao’s Great Leap Forward; with the exception of a few party members, everybody was poor. With Deng Xiaoping’s market reforms, almost a billion Chinese lifted themselves out of poverty; according to the World Bank, China’s rate of extreme poverty fell from 88 per cent in 1981 to 0.7 per cent in 2015. In that same period, China’s GDP per capita rose from $200 to $9,000. Mao’s China was very equal, as everybody was poor. Today’s China is less equal, but the Chinese, from the poorest to the middle class, are much better off.

One is loath to start comparing hardships. But I would suggest that income inequality, slow median wage growth, and declining intergenerational mobility are not the “most pressing economic problems in modern-day America.” These are disappointments yes, but middle-class Americans have never been wealthier or healthier. If anything, they are suffering from affluenza, as capitalism has shifted from a culture of saving to a culture of consumption, and envy has replaced gratitude. I suggest that we ought to look instead to lingering poverty, mass incarceration, and regulatory barriers to work, as far more pressing concerns.

This leads us to the book’s second problem. Clausing 1.0 is a talented economist. But Clausing 2.0 is a social engineer with a grand plan for rescuing the middle class from its imagined plight. To her credit, Clausing 1.0 places constraints on the utopias of Clausing 2.0, wisely rejecting barriers to trade as counter-productive.

The Clausing 2.0 Plan boils down to four key points:

  1. Decreasing the tax burden for those at the bottom
  2. Increasing the national investment in education
  3. Trade adjustment assistance
  4. Increased bargaining power for labor

The Clausing Plan would expand the Earned Income Tax Credit, tax all sources of income of top taxpayers at the same rate, and impose a carbon tax. Consider, however, that half of Americans already do not pay federal income taxes (it is important to note that they do pay other taxes, like FICA taxes, sales taxes, and property taxes, and face a disparate impact from regulations and fees, from legal fees to bank fees). The top 50 per cent of taxpayers pay 97 per cent of tax income; the top 5 per cent pay more (59 per cent) than the bottom 95 per cent; and the top 1 per cent pay 38 per cent. The tax system is already heavily top-heavy; this is troubling for democracy, as there exists such a deep disconnect between paying the bill and voting on the spending. Further raising taxes on the highest earners may feel good; but the richest Americans do not, like Scrooge McDuck, luxuriate in swimming pools full of cash – rather, they invest, driving the economy, driving innovation, and driving job creation. At the very least, redistribution’s gains in consumption at the bottom must be balanced with lost investment at the top.

In addition, Clausing 2.0 blithely assumes that government will be a more efficient steward of resources than will be the entrepreneurs who created that wealth in the first place. Finally, the carbon tax may be the most sensible method of environmental protection (it may also not be); but Clausing 1.0 would do well to remind Clausing 2.0 that everything has an opportunity cost – any increase in taxation will lead to diminished economic growth, as tax dollars are diverted away from consumption and investment, and into government coffers. Assuming a carbon tax is indeed environmentally beneficial, on which margins is Clausing 2.0 willing to redistribute wealth away from the middle class to protect the environment?

US educational policy is an expensive disaster. From 1970 to 2010, the inflation-adjusted cost of a K-12 education increased by almost 200 per cent, while educational achievement remained stagnant. In higher education, massive federal direct grants and indirect support of student loans have caused a bubble. Millions of students who are not academically prepared for college are purchasing degrees that are worth less than their cost, as colleges lower standards to accommodate the increased demand. Clausing 1.0 would have predicted this, as subsidies lead to increased consumption, increased price, and shared benefits between consumers and producers. But Clausing 2.0 wants to solve the structural downside of globalization by dumping even more money into a failed system. The interested reader is guided to two new and damning books on education: Bryan Caplan’s The Case Against Education: Why the Education System is a Waste of Time and Money, and Jason Brennan and Phillip Magness’s Cracks in the Ivory Tower: The Moral Mess of Higher Education.

Trade adjustment assistance seems pretty straightforward: everybody (as consumers) benefits from trade, so the winners should compensate the losers, if trade leads to lost domestic jobs. But the economist Don Boudreaux points out the underlying political bargain: participation in worldwide trade leads to (vastly) higher levels of material wealth, but it also entails a loss of control, as a dynamic economy is one of creative destruction. There is a temptation to defect from “Boudreaux’s Bargain” as soon as it ceases to be beneficial – but if everybody defected from the bargain, and rejected international trade, we would all be poor.  According to the logic of trade assistance, consumers who benefit from the lower prices of trade, and workers who benefit from increased work opportunities, should be taxed to compensate the losers. But then the whole logic of specialization according to comparative advantage falls apart: taxing away the economic surplus from specialization and trade would negate the very benefits of trade. The plight of those displaced by international trade is very real – and it is typically not nimble, young, educated workers who are affected by such job losses. But just as Clausing 1.0 rejects barriers to trade, she ought also to reject trade adjustment assistance.

Clausing 1.0 ought to be suspicious of policies designed to increase labor’s bargaining power. Indeed, intervention with trade in domestic labor is apt to present the same problems as intervention in international trade. In 1950, approximately 5 per cent of workers needed a government license to work; today, almost 30 per cent of workers must seek permission (and pay) for the ability to earn an honest living – with a disparate impact on lower-income workers. Likewise, right-to-work laws (rather than forced unionization) tend to have a positive impact on job creation, economic growth, and wages (due to higher productivity). Increased labor regulations would decrease job creation and economic growth – again, with a disparate impact on lower-wage workers.

The inconsistencies between Clausing 1.0 and Clausing 2.0 are jarring – but they are also indicative of a mainstream profession that has eschewed its own humble insights, in favor of the headiness of whispering policy advice into the prince’s ear.

Clausing 1.0 makes a necessary, passionate (and compassionate) case for openness in an era characterized by a fondness for walls. Clausing 2.0 forgets the basics of economics, and calls for more government spending and more intervention. Clausing 1.0 could remind Clausing 2.0 that the burden of compliance with federal regulations is currently estimated at 10 per cent of GDP. While some safety regulation may be necessary, the crushing weight of regulatory compliance, especially when added to runaway government spending, is diverted from economic activity, job creation, and innovation.

This is an important book for these illiberal days of closure. The myopia of Clausing 2.0 should not overshadow the important message of Clausing 1.0. This is a timely, necessary and precise book. It would have been even better if the insightful economist and deft communicator had tamed the social engineer and counselor to the prince.