Many people believe that someone who has made a personal fortune will know how to make an entire nation more prosperous. I am not claiming that business-people are stupid or that economists are particularly smart.
On the contrary, if the top U. My point is that the style of thinking necessary for economic analysis is very different from that which leads to success in business.
By understanding that difference, we can begin to understand what it means to do good economic analysis and perhaps even help some businesspeople become the great economists they surely have the intellect to be.
Let me begin with two examples of economic issues that I have found business executives generally do not understand: first, the relationship between exports and job creation, and, second, the relationship between foreign investment and trade balances.
Both issues involve international trade, partly because it is the area I know best but also because it is an area in which businesspeople seem particularly inclined to make false analogies between countries and corporations. Business executives consistently misunderstand two things about the relationship between international trade and domestic job creation.
First, since most U. Specifically, they believe that free trade agreements such as the recently concluded General Agreement on Tariffs and Trade are good largely because they mean more jobs around the world. Second, businesspeople tend to believe that countries compete for those jobs. The more the United States exports, the thinking goes, the more people we will employ, and the more we import, the fewer jobs will be available.
According to that view, the United States must not only have free trade but also be sufficiently competitive to get a large proportion of the jobs that free trade creates. Do those propositions sound reasonable? Of course they do. This sort of rhetoric dominated the last U. However, economists in general do not believe that free trade creates more jobs worldwide or that its benefits should be measured in terms of job creation or that countries that are highly successful exporters will have lower unemployment than those that run trade deficits.
The idea that free trade means more global jobs seems obvious: More trade means more exports and therefore more export-related jobs. But there is a problem with that argument. Unless there is some reason to think that free trade will increase total world spending—which is not a necessary outcome—overall world demand will not change.
Moreover, beyond this indisputable point of arithmetic lies the question of what limits the overall number of jobs available. Is it simply a matter of insufficient demand for goods? Surely not, except in the very short run. It is, after all, easy to increase demand. The Federal Reserve can print as much money as it likes, and it has repeatedly demonstrated its ability to create an economic boom when it wants to.
Because it believes, with good reason, that if it were to do so—if it were to create too many jobs—the result would be unacceptable and accelerating inflation.
In other words, the constraint on the number of jobs in the United States is not the U. That is not an abstract point. During , the Fed raised interest rates seven times and made no secret of the fact that it was doing so to cool off an economic boom that it feared would create too many jobs, overheat the economy, and lead to inflation.
Consider what that implies for the effect of trade on employment. Suppose that the U. What would the Fed do? It would offset the expansionary effect of the exports by raising interest rates; thus any increase in export-related jobs would be more or less matched by a loss of jobs in interest-rate-sensitive sectors of the economy, such as construction.
Conversely, the Fed would surely respond to an import surge by lowering interest rates, so the direct loss of jobs to import competition would be roughly matched by an increased number of jobs elsewhere. Even if we ignore the point that free trade always increases world imports by exactly as much as it increases world exports, there is still no reason to expect free trade to increase U. When the U. If he is, he is also instrumental in destroying a roughly equal number of jobs elsewhere in the economy.
The ability of the U. Needless to say, this argument does not sit well with business audiences. The other effects that economists talk about seem abstract. And yet if you accept the idea that the Fed has both a jobs target and the means to achieve it, you must conclude that changes in exports and imports have little effect on overall employment. Our second example, the relationship between foreign investment and trade balances, is equally troubling to businesspeople.
Suppose that hundreds of multinational companies decide that a country is an ideal manufacturing site and start pouring billions of dollars a year into the country to build new plants. Business executives, almost without exception, believe that the country will start to run trade surpluses. They think of their own companies and ask what would happen if capacity in their industries suddenly expanded.
Clearly their companies would import less and export more. If the same story is played out in many industries, surely this would mean a shift toward a trade surplus for the economy as a whole.
The economist knows that just the opposite is true. Because the balance of trade is part of the balance of payments, and the overall balance of payments of any country—the difference between its total sales to foreigners and its purchases from foreigners—must always be zero.
That is, it can buy more goods from foreigners than it sells or vice versa. But that imbalance must always be matched by a corresponding imbalance in the capital account. A country that runs a trade deficit must be selling foreigners more assets than it buys; a country that runs a surplus must be a net investor abroad.
When the United States buys Japanese automobiles, it must be selling something in return; it might be Boeing jets, but it could also be Rockefeller Center or, for that matter, Treasury bills. That is not just an opinion that economists hold; it is an unavoidable accounting truism. So what happens when a country attracts a lot of foreign investment? A country that attracts large capital inflows will necessarily run a trade deficit.
But that is just accounting. How does it happen in practice? When companies build plants, they will purchase some imported equipment. Share This Page. Act Learn how you can get involved and lend a hand.
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