Chocolate and Gold Coins

Thursday, June 30, 2005

Krugman and Mercantilism

One of the pleasures of blogging is participating in intelligent discussions that spead throughout the blogosphere. This is the very nice thing about blogging: you can get together with people everywhere and share your thoughts on a subject. And many times, these collective thoughts are very intelligent, although thoughts are sometimes impolite.

One issue that spread through the blogosphere is the recent acquisition attempt by a Chinese (70% government owned) oil company CNOOC to purchase Unocal (a U.S. based oil company) for $18.5 billion. There are many in the U.S. who are upset this for various reasons. Economist Paul Krugman wrote the following in the New York Times:

Yet there are two reasons that Chinese investment in America seems different from Japanese investment 15 years ago.

One difference is that, judging from early indications, the Chinese won't squander their money as badly as the Japanese did.

The Japanese, back in the day, tended to go for prestige investments - Rockefeller Center, movie studios - that transferred lots of money to the American sellers, but never generated much return for the buyers. The result was, in effect, a subsidy to the United States.

The Chinese seem shrewder than that. Although Maytag is a piece of American business history, it isn't a prestige buy for Haier, the Chinese appliance manufacturer. Instead, it's a reasonable way to acquire a brand name and a distribution network to serve Haier's growing manufacturing capability.

That doesn't mean that America will lose from the deal. Maytag's stockholders will gain, and the company will probably shed fewer American workers under Chinese ownership than it would have otherwise. Still, the deal won't be as one-sided as the deals with the Japanese often were.

What kind of weird logic is this? We should only do deals with countries if we get the better of them? What modern-day economist thinks like this? Well, maybe Paul Krugman does.

He goes on to say:

The more important difference from Japan's investment is that China, unlike Japan, really does seem to be emerging as America's strategic rival and a competitor for scarce resources - which makes last week's other big Chinese offer more than just a business proposition.

The China National Offshore Oil Corporation, a company that is 70 percent owned by the Chinese government, is seeking to acquire control of Unocal, an energy company with global reach. In particular, Unocal has a history - oddly ignored in much reporting on the Chinese offer - of doing business with problematic regimes in difficult places, including the Burmese junta and the Taliban. One indication of Unocal's reach: Zalmay Khalilzad, who was U.S. ambassador to Afghanistan for 18 months and was just confirmed as ambassador to Iraq, was a Unocal consultant.

Unocal sounds, in other words, like exactly the kind of company the Chinese government might want to control if it envisions a sort of "great game" in which major economic powers scramble for access to far-flung oil and natural gas reserves. (Buying a company is a lot cheaper, in lives and money, than invading an oil-producing country.) So the Unocal story gains extra resonance from the latest surge in oil prices.

If it were up to me, I'd block the Chinese bid for Unocal. But it would be a lot easier to take that position if the United States weren't so dependent on China right now, not just to buy our I.O.U.'s, but to help us deal with North Korea now that our military is bogged down in Iraq.

So he would block a sale of a publicly traded company to a Chinese company simply because he views oil and oil production to be “strategic assets”. That sounds a lot like mercantilism. He also seems to prefer that China invade countries to acquire oil instead of buying it – well sort of.

No surprise that this article caused a great stir in the blogosphere. Tyler Cowen and Café Hayak put in their rebuttals. Then Alex Tabarrok of Marginal Revolution really laid into Krugman:

What really upset me about Krugman's column is not the bizarre economics but the illiberal politics. In the last twenty years China's economic growth has lifted hundreds of millions of people out of poverty and nearly unspeakable deprivation. China's abandonment of communism is one of the great humanitarian events of all time. And what does Krugman have to say about this improvement in well being? (I paraphrase).

'Watch out. Now is the time to panic. Their gain is your loss.'

It's hard to over-estimate how awful Krugman's column is. Consider this:

China, unlike Japan, really does seem to be emerging as America's strategic rival and a competitor for scarce resources...

'Strategic rival' is the kind of term that would-be Metternichs throw about to impress their girlfriends but what does it mean? Everyone is a competitor for scarce resources. Even those nice Canadians compete with Americans for scarce resources. Are Canadians a strategic rival to be feared? [Note Alex Tabarrok is a “nice” Canadian].

The real question is how do rivals compete? Do they compete with war or by trade? China is moving from the former to the latter but shockingly Krugman prefers the former.

By the way, is Alex Tabarrok accusing Krugman of having a girlfriend – and writing rot just to impress her in the New York Times? Is her name Hillary?

Then Crooked Timber, a very intelligent left-of-center blog came into the debate. Henry Farrell writes:

Alex Tabarrok denounces Paul Krugman as an “illiberal demagogue” who has forgotten his heritage as an economist. The reason: Krugman’s claim that China is a strategic rival, and his recommendation that the Chinese bid for Unocal be blocked.

On the other, if one state does see politics as a zero-sum game and is unlikely to be persuaded otherwise, then it may be a big mistake to concede strategic resources to that state – it may use them against you later. This is of course the reason that international trade in, say, advanced weapons systems, does not resemble a free market (whether control over oil companies is a similarly sensitive strategic asset, I’ll leave to the discussion section). Which means that if Alex wants to make a convincing case that Krugman isn’t just making a claim that runs against the usual normative biases of economists, but is actually wrong on the merits here, he needs to provide more evidence than an argument-by-assertion that China is now “moving” from war to trade.

I participated in a rather excellent comment thread (I cannot take much credit, I only posted 4 out of 60 comments).

Here are some quotes:

I’m sorry to say that you didn’t really understand Prof. Tabarrok’s complaint. Krugman’s editorial suggests nowhere that he is concerned about the military threat that a stronger China might pose to the U.S. and it’s allies (and admittedly, that might complicate a pure free-trade argument if you really feared it). Instead Krugman is worried that China will out-compete us economically.

It is clear that Krugman is concerned that China will own too much oil, copper, zinc, whatever commodity you like for his comfort. Why should we care? The Soviet Union was filthy rich in natural resources and what good did it do them? What economist today really cares about raw natural resources (other than brain power) as a source of economic power. THIS is the reason Tabarrok labels Krugman a neo-mercantilist.

Tabarrok clearly believes that China does not represent a clear and present danger to U.S. security unless we treat them like a threat. That’s a completely different issue.

And it is further clear that Tabarrok does not consider the possiblity that China would corner the market on strategic commodites to be a serious military threat to the U.S., and I would argue that most economists would tend to agree with Tabarrok.

Alex Tabarrok came in to defend me in the comment section.

Later I wrote:

I cannot speak for Paul Krugman so I cannot know what he was referring to when he mentions the “Great Game” but the purchase of a small oil company by a Chinese firm would not even be comparable to playing P-QR3 in chess. I would be more concerned if a Chinese firm tried to buy a Swiss Chocolate company because they could conceivable mess up that market (since what do Chinese know about chocolate?) but they could never control enough oil to make a difference.

Any mainstream economist would point out that there really is no difference between spending $10 billion on oil or on marble. These are commodities, and unless you corner the market, your impact on the market is essentially nil.

The thing that really bothers free trade economists like Alex Tabarrok and myself is that free trade has done a world of good for the people of China and India and the rest of the world so to start back down the protectionist path based on rather vague fears seem tragic. Let me put it this way: If Unocal went out of business, would we have cared? If China had spent $10 billion on new tanks, would we be quaking in our boots? (I’m glad they are not doing this). But if neither happens but instead one Chinese company buys Unocal and keeps their employees employed, we should be concerned?

I would agree that it would be wonderful if China would liberalize its society and allow elections and allow more freedoms. I definitely would love that. I don’t think the Unocal purchase is relevant for that issue one way or the other.

Alex Tabarrok excerpted a piece of the above comment and posted it in Marginal Revolution, (thanks Alex).

Read the whole thread.


  • Well...Krugman seems to have "lost it" for a while now....his columns are getting more and more confused by the day....., but writing for the NYT and being a Princeton professor ensures that you are read and heard.

    Shifting fromt he topic slightly though.....Krugman's fellow columnist Friedman's losing it too....he's gone all the way to the other extreme of free trade (in his latest book "the world is flat") and is thus making some mistakes by overlooking or ignoring some very obvious problems.

    By Blogger Sunil, at 2:33 PM  

  • The US doesn't allow broadcast stations to be majority-owned by outsiders. Each asset/industry/commodity has to be looked at separately. Oil is what fuels the world economy in every sense of the word. So indeed it is a strategic asset. You yourself more or less agreed when you said that the Chinese will never control enough oil. As for whether the sale should go on. I have no interest in this food-fight. I think this sale is no big deal. Like as if my views are going to have any effect anyway.

    You said:"if a Chinese firm tried to buy a Swiss Chocolate company because they could conceivable mess up that market (since what do Chinese know about chocolate?)"

    um, there was a time when the Swiss knew nothing either. Cocoa is grown mostly in Africa. Through a jumble of protective practices European chocolate/food items have gained global currency.

    Sunil Laxman, stop reading Thomas Friedman and start reading Matt Taibbi.

    yum yum

    By Anonymous Anonymous, at 3:21 PM  

  • Hi Sunil and Yum Yum
    Sunil: That column was bizarre, and I doubt he would have written it that way if he were to do it again.
    Yum Yum: The Swiss invented the chocolate bar. They still make the best stuff. And Cocoa beans originated in Central America.

    Oil is no more a strategic asset than food is. Obviously, a blockade of either would be devastating if you do not have a domestic source of production. However, there would be no reason to fear the Chinese if they were to buy a U.S. agricultural firm. They might have a legitamite business need for such technology.

    I'm not sure, but I believe that the rule against buying a broadcast station only applies to the big 4 TV networks. The feeling is, there's only 4 of them and corning the market would be easy. But there's lots of oil companies.

    By Blogger Michael Higgins, at 3:58 AM  

  • "They still make the best stuff."

    Protectionist measures ensure that African countries can't even try.

    There used to be 3 broadcast stations then somebody wanted to start a fourth one. He had to acquire US citizenship. Hmm!

    But you are ok with this interference in the market. Krugman is ok with another kind of interference. Maybe both of you can make a deal out of it.

    By Anonymous Anonymous, at 9:07 AM  

  • .......The rules are used to exclude poor farmers from selling high value-added and profitable produce, like chocolate or orange juice. For example, Europe charges no import tax on poor countries exporting cocoa seeds, but tariffs at 15% if the seeds are processed to produce chocolate. This protectionism explains why Germany processes more cocoa than Ivory Coast (the world’s biggest producer) and the UK more than Ghana.
    Poor countries instead are stuck in a trap of having to grow primary commodities at a loss........


    By Anonymous Anonymous, at 9:38 AM  

  • Hi Anonymous
    I agree that those import tariff are terrible. I the Ivory Coast firms can make good chocolate they should be able to sell it anywhere. However, the knowledge of how to make chocolate is more important than having a cheap source of the raw ingredient. Probably the Swiss will dominate in chocolate for some time to come.

    By Blogger Michael Higgins, at 2:00 PM  

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