Neomercantilism
Encyclopedia
Neomercantilism is a term used to describe a policy regime which encourages exports, discourages imports, controls capital movement and centralizes currency decisions in the hands of a central government. The objective of neo-mercantilist policies is to increase the level of foreign reserves held by the government, allowing more effective monetary policy
and fiscal policy
.
This is generally believed to come at the cost of lower standards of living than an open economy
would bring at the same time, but offers the advantages to the government in question of having greater autonomy and control. China, Japan and Singapore are described as neo-mercantilist. It is called "neo-" because of the change in emphasis from classical mercantilism on military development, to economic development, and its acceptance of a greater level of market determination of prices internally than was true of classical mercantilism.
Its policy recommendations sometimes echo the mercantilism
of the early modern period
. These are generally protectionist measures in the form of high tariffs and other import restrictions to protect domestic industries combined with government intervention
to promote industrial growth, especially manufacturing. At its simplest level, it proposes that economic independence and self-sufficiency are legitimate objectives for a nation to pursue, and systems of protection are justified to allow the nation to develop its industrial and commercial infrastructure to the point where it can compete on equal terms in international trade. In macro-economic terms, it emphasizes a fixed currency and autonomy over monetary policy over capital mobility.
became incapable of regulating the new methods of production
and distribution
, mercantilism
emerged as a system for managing economic growth through international trade
. It was a form of merchant capitalism
relying on protectionism
. It was developed in the sixteenth century by the European nation-states to enrich their own countries by encouraging exports and limiting imports. In modern terms, the intention was to achieve a "favourable" balance of trade
.
is one of the best examples of the collaboration of state and merchants in exploiting market opportunities. The benefits that occurred as a result were:
of mercantilism in limiting the benefits of trade to the elite classes, and asserted that free trade
should benefit all interested parties. Smith considered mercantilism a system where one country increases its power by getting excess gold on foreign transactions and it is a system created by merchants in order to get monopolies and easy profits.
Some people believe that, because Britain adopted his call for free trade policies, it fell behind the United States and Germany by 1880, having gained its dominance under the mercantilism of Cromwell and Elizabeth I (when according to Adam Smith, England was much less mercantilist than Spain and Portugal, who decayed much due to their colonial mercantilist policies, their gold reserves all naturally flowed to Britain, who at the time had a much more efficient production system, even though Portugal and Spain had colonies with much richer natural resources than Britain). The success of the United States and Germany drove the reintroduction of protectionist regulations in the rest of Europe.
It must be noted that between 1870-1910 United States achieved a global industrial dominance thanks to innovations in its production system (such as interchangeable parts), culminating with Ford's Assembly line. These innovations strongly increased the international competitiveness of American products.
This use of protectionism is criticized on grounds that go back to Adam Smith's The Wealth of Nations, which was aimed directly at classical mercantilist policies, and whose arguments are applied to neo-mercantilism. Namely that protectionism is effective as a means of fostering economic independence and national stability; and questioning the conclusion that it allows for sustainable development of the nation's industrial base in the most efficient manner. Instead market economics has for over two centuries argued that increasing competition
within the nation which will more effectively promote capital development and efficient allocation of resources. "Free trade
rs" argue that by closing an economy, resources will be spent duplicating products that could more effectively be bought from abroad, and that there will be less development of exports which offer a comparative advantage
. Market economists also argue that protection denies a nation's own consumers the opportunity to buy at cheaper market prices when quotas
or tariffs are imposed on imports.
The subsidy of goods has also been advocated under neomercantilism. The fair trade
movement claims that the protection of stability in emerging economies by guaranteeing a minimum purchase of goods at prices above those available in the current world markets, can contribute to restoring economic and social balance as well as promote social justice
. Proponents of the fair trade movement argue that this may help to avoid the instability generated by the influence of global corporations on developed and developing nations.
Neomercantilists claim that "Free Trade" results in a negative philosophy that a nation that is not competitive deserves to decline and perish, just like an under-performing corporation should. They argue that "free trade" does not work well whenever dumping
is practiced or the international rules do not take into account the differences between wages, costs environmental regulations, and benets from nation to nation. For instance, there is a major difference in the cost of labour between a "First World
" and "Third World
" country for two equally skilled (or unskilled) sets of workers. When this economic reality is exploited by "First World" manufacturers, the benefits accrue to "First World" shareholders and consumers (and slightly improved work condition of exploited Third World workers) at the expense of privileged "First World" workers and their status in the "middle class
".
An unquestioningly open policy in such circumstances may effectively devalue "first world" human capital investments in favor of financial capital investments. Consider for example, a person deciding whether to invest in training as an engineer or in a portfolio of financial assets. Offshoring
dramatically increases the effective supply of engineers, and as a result, their price will tend to decline (or grow at a slower rate). This decline will be increased by the lower cost of living in non-first world countries that would allow an engineer there to live much better on a lower nominal salary than their first world counterpart. (see purchasing power parity
). This obviously is resulting in a huge immigration of skilled professionals from first-world countries to the third world, seeking a better quality of life.
Faced with such prospects, rational economic agents will tend to avoid investing in human capital in areas that are vulnerable to such government-induced devaluation. Instead, they will shift training toward areas that are protected by regulation (for example : careers in law
, medicine
, government
) or social tradition (tenured academia), or socio-cultural factors (sales) or local physical requirements (nursing, medicine, construction). Alternatively, rational economic agents in "first world" economies may choose to invest in financial assets instead of human capital — further eroding the long term ability of the "first world"
country to produce and grow. As predicted by Adam Smith, this effect would reduce the inequality between First World and Third World countries, increasing overall fairness.
Additionally, since cost of goods sold tends to be a larger component of total revenue than profits for most industries, production within a country may keep a larger portion of the total wealth within the local economy in comparison to dividends of profits and reduced prices on consumer goods. Furthermore, infrastructure investments may be reduced when production is shifted offshore. Over the longer term, such reduced local investments may reduce longer term productivity and economic growth. Neomercantilist economies on the other hand are often characterized by higher long term growth rates (that tend to flatten when neomercantilist policies are halted). This claim unfortunately is not verified among developed nations, where Australia is both the main proponent of international free trade and among the first world countries, the one with the higher sustained growth during the last fifteen years. Also, as of February 2009, Australia is also the only developed country who is not officially in recession.
The language of neomercantilist policies repeats the claims of earlier centuries that protective measures benefit the nation
as a whole and that governmental intervention secures the "wealth of the nation" for future generations. In doing so, neomercantilist admit that the interests of large corporations might as often be represented and protected as pushed aside for the national interest.
As a neomercantilist nation's industrial production capacity and improving research and development grow as a threat to the hegemon's (who usually unilaterally practices free-trade as Britain in the 19th century and the USA in the late 20th century) domestic markets, so protectionism is the usual response, initially through political and, when necessary, military means (see World War I
).
After 1900, Britain was unable to remain an effective hegemon, having followed its "free trade" philosophy since the 1840s, but the United States was still pursuing policies of its American School
rooted in Hamilton
's three reports, that it had embraced in the 1860s under Abraham Lincoln
. Germany followed Otto von Bismarck
's policies based on Friedrich List
's "National System", and American economic practices — allowing both powers to continue their dominance in world economics and power. Germany chose to use its strength to pursue a 'balance of power' with the British Empire leading indirectly to World War I, whereas the United States refrained from European power struggles through its foreign policy of 'isolationism' or non-interventionism in foreign conflicts.
intruded into the world trade system, protectionism followed.
In Two Hegemonies, Pigman describes a hegemon's principal function as, "...underwriting a liberal international trading system that is beneficial to the hegemon but, paradoxically, even more beneficial to its potential rivals." As it grows in significance, the hegemon expands its sphere of influence to include interests that have to be promoted through liberal economic policies. During this period, the hegemon will benefit directly from the increased international trade. But other economies also prosper. They are not burdened with high defence spending and the costs associated with overseas development. The "hegemon's dilemma" is whether to revert to neomercantilist policies if its hegemony is threatened, or to continue free trade and risk a relative decline. History suggests that all the global powers experience a period of growth under mercantilistic policy followed by a period where they are benign and focused on promoting international peace and liberal trade which is followed by a period of contraction when they become progressively more unstable.
game.
The prisoner's dilemma is not a zero-sum game. Everyone would be better off if all players cooperated than if they defected. (Mutual cooperation is a Pareto improvement over mutual defection). Unfortunately, each player has an incentive to defect against their opponent. By defecting a player can defend themselves against an opponent's defection, and can exploit a cooperating opponent.
In single-shot
prisoner's dilemma, the economically dominant action is to defect.
However, trade policy is formed over time — and is better modelled by iterated /repeated prisoner's dilemma. Key early work in this area includes research by David Kreps, and by Robert Axelrod
. One of the most important developments in game theory
is the development of the folk theorem
when applied to iterated prisoner's dilemma games.
Monetary policy
Monetary policy is the process by which the monetary authority of a country controls the supply of money, often targeting a rate of interest for the purpose of promoting economic growth and stability. The official goals usually include relatively stable prices and low unemployment...
and fiscal policy
Fiscal policy
In economics and political science, fiscal policy is the use of government expenditure and revenue collection to influence the economy....
.
This is generally believed to come at the cost of lower standards of living than an open economy
Open economy
An open economy is an economy in which there are economic activities between domestic community and outside, e.g. people, including businesses, can trade in goods and services with other people and businesses in the international community, and flow of funds as investment across the border...
would bring at the same time, but offers the advantages to the government in question of having greater autonomy and control. China, Japan and Singapore are described as neo-mercantilist. It is called "neo-" because of the change in emphasis from classical mercantilism on military development, to economic development, and its acceptance of a greater level of market determination of prices internally than was true of classical mercantilism.
Its policy recommendations sometimes echo the mercantilism
Mercantilism
Mercantilism is the economic doctrine in which government control of foreign trade is of paramount importance for ensuring the prosperity and security of the state. In particular, it demands a positive balance of trade. Mercantilism dominated Western European economic policy and discourse from...
of the early modern period
Early modern period
In history, the early modern period of modern history follows the late Middle Ages. Although the chronological limits of the period are open to debate, the timeframe spans the period after the late portion of the Middle Ages through the beginning of the Age of Revolutions...
. These are generally protectionist measures in the form of high tariffs and other import restrictions to protect domestic industries combined with government intervention
Economic interventionism
Economic interventionism is an action taken by a government in a market economy or market-oriented mixed economy, beyond the basic regulation of fraud and enforcement of contracts, in an effort to affect its own economy...
to promote industrial growth, especially manufacturing. At its simplest level, it proposes that economic independence and self-sufficiency are legitimate objectives for a nation to pursue, and systems of protection are justified to allow the nation to develop its industrial and commercial infrastructure to the point where it can compete on equal terms in international trade. In macro-economic terms, it emphasizes a fixed currency and autonomy over monetary policy over capital mobility.
Rise of mercantilism
As feudalismFeudalism
Feudalism was a set of legal and military customs in medieval Europe that flourished between the 9th and 15th centuries, which, broadly defined, was a system for ordering society around relationships derived from the holding of land in exchange for service or labour.Although derived from the...
became incapable of regulating the new methods of production
Production, costs, and pricing
The following outline is provided as an overview of and topical guide to industrial organization:Industrial organization – describes the behavior of firms in the marketplace with regard to production, pricing, employment and other decisions...
and distribution
Distribution (business)
Product distribution is one of the four elements of the marketing mix. An organization or set of organizations involved in the process of making a product or service available for use or consumption by a consumer or business user.The other three parts of the marketing mix are product, pricing,...
, mercantilism
Mercantilism
Mercantilism is the economic doctrine in which government control of foreign trade is of paramount importance for ensuring the prosperity and security of the state. In particular, it demands a positive balance of trade. Mercantilism dominated Western European economic policy and discourse from...
emerged as a system for managing economic growth through international trade
International trade
International trade is the exchange of capital, goods, and services across international borders or territories. In most countries, such trade represents a significant share of gross domestic product...
. It was a form of merchant capitalism
Capitalism
Capitalism is an economic system that became dominant in the Western world following the demise of feudalism. There is no consensus on the precise definition nor on how the term should be used as a historical category...
relying on protectionism
Protectionism
Protectionism is the economic policy of restraining trade between states through methods such as tariffs on imported goods, restrictive quotas, and a variety of other government regulations designed to allow "fair competition" between imports and goods and services produced domestically.This...
. It was developed in the sixteenth century by the European nation-states to enrich their own countries by encouraging exports and limiting imports. In modern terms, the intention was to achieve a "favourable" balance of trade
Balance of trade
The balance of trade is the difference between the monetary value of exports and imports of output in an economy over a certain period. It is the relationship between a nation's imports and exports...
.
Example
The East India CompanyBritish East India Company
The East India Company was an early English joint-stock company that was formed initially for pursuing trade with the East Indies, but that ended up trading mainly with the Indian subcontinent and China...
is one of the best examples of the collaboration of state and merchants in exploiting market opportunities. The benefits that occurred as a result were:
- it slowly encouraged the evolution of regional into nation states;
- a commercial class emerged which, in return for paying taxes, received state protection in the form of monopolies and tariffs;
- once colonies were established, managing the transport of private goods and the volume of trade enriched the imperialist states and provided both significant employment for the general population and opportunities for upward class mobility for the more enterprising individuals.
Early criticism
In The Wealth of Nations, Adam Smith criticised the implicit political corruptionPolitical corruption
Political corruption is the use of legislated powers by government officials for illegitimate private gain. Misuse of government power for other purposes, such as repression of political opponents and general police brutality, is not considered political corruption. Neither are illegal acts by...
of mercantilism in limiting the benefits of trade to the elite classes, and asserted that free trade
Free trade
Under a free trade policy, prices emerge from supply and demand, and are the sole determinant of resource allocation. 'Free' trade differs from other forms of trade policy where the allocation of goods and services among trading countries are determined by price strategies that may differ from...
should benefit all interested parties. Smith considered mercantilism a system where one country increases its power by getting excess gold on foreign transactions and it is a system created by merchants in order to get monopolies and easy profits.
Some people believe that, because Britain adopted his call for free trade policies, it fell behind the United States and Germany by 1880, having gained its dominance under the mercantilism of Cromwell and Elizabeth I (when according to Adam Smith, England was much less mercantilist than Spain and Portugal, who decayed much due to their colonial mercantilist policies, their gold reserves all naturally flowed to Britain, who at the time had a much more efficient production system, even though Portugal and Spain had colonies with much richer natural resources than Britain). The success of the United States and Germany drove the reintroduction of protectionist regulations in the rest of Europe.
It must be noted that between 1870-1910 United States achieved a global industrial dominance thanks to innovations in its production system (such as interchangeable parts), culminating with Ford's Assembly line. These innovations strongly increased the international competitiveness of American products.
Philosophy
Neomercantilism is founded on the use of control of capital movement and discouraging of domestic consumption as a means of increasing foreign reserves and promoting capital development. This involves protectionism on a host of levels: both protection of domestic producers, discouraging of consumer imports, structural barriers to prevent entry of foreign companies into domestic markets, manipulation of the currency value against foreign currencies and limitations on foreign ownership of domestic corporations. While all nations engage in these activities to one degree or another, neo-mercantilism makes them the focus of economic policy. The purpose is to develop export markets to developed countries, and selectively acquire strategic capital, while keeping ownership of the asset base in domestic hands.This use of protectionism is criticized on grounds that go back to Adam Smith's The Wealth of Nations, which was aimed directly at classical mercantilist policies, and whose arguments are applied to neo-mercantilism. Namely that protectionism is effective as a means of fostering economic independence and national stability; and questioning the conclusion that it allows for sustainable development of the nation's industrial base in the most efficient manner. Instead market economics has for over two centuries argued that increasing competition
Competition
Competition is a contest between individuals, groups, animals, etc. for territory, a niche, or a location of resources. It arises whenever two and only two strive for a goal which cannot be shared. Competition occurs naturally between living organisms which co-exist in the same environment. For...
within the nation which will more effectively promote capital development and efficient allocation of resources. "Free trade
Free trade
Under a free trade policy, prices emerge from supply and demand, and are the sole determinant of resource allocation. 'Free' trade differs from other forms of trade policy where the allocation of goods and services among trading countries are determined by price strategies that may differ from...
rs" argue that by closing an economy, resources will be spent duplicating products that could more effectively be bought from abroad, and that there will be less development of exports which offer a comparative advantage
Comparative advantage
In economics, the law of comparative advantage says that two countries will both gain from trade if, in the absence of trade, they have different relative costs for producing the same goods...
. Market economists also argue that protection denies a nation's own consumers the opportunity to buy at cheaper market prices when quotas
Import quota
An import quota is a type of protectionist trade restriction that sets a physical limit on the quantity of a good that can be imported into a country in a given period of time....
or tariffs are imposed on imports.
The subsidy of goods has also been advocated under neomercantilism. The fair trade
Fair trade
Fair trade is an organized social movement and market-based approach that aims to help producers in developing countries make better trading conditions and promote sustainability. The movement advocates the payment of a higher price to producers as well as higher social and environmental standards...
movement claims that the protection of stability in emerging economies by guaranteeing a minimum purchase of goods at prices above those available in the current world markets, can contribute to restoring economic and social balance as well as promote social justice
Social justice
Social justice generally refers to the idea of creating a society or institution that is based on the principles of equality and solidarity, that understands and values human rights, and that recognizes the dignity of every human being. The term and modern concept of "social justice" was coined by...
. Proponents of the fair trade movement argue that this may help to avoid the instability generated by the influence of global corporations on developed and developing nations.
Neomercantilists claim that "Free Trade" results in a negative philosophy that a nation that is not competitive deserves to decline and perish, just like an under-performing corporation should. They argue that "free trade" does not work well whenever dumping
Dumping (pricing policy)
In economics, "dumping" is any kind of predatory pricing, especially in the context of international trade. It occurs when manufacturers export a product to another country at a price either below the price charged in its home market, or in quantities that cannot be explained through normal market...
is practiced or the international rules do not take into account the differences between wages, costs environmental regulations, and benets from nation to nation. For instance, there is a major difference in the cost of labour between a "First World
First World
The concept of the First World first originated during the Cold War, where it was used to describe countries that were aligned with the United States. These countries were democratic and capitalistic. After the fall of the Soviet Union and the end of the Cold War, the term "First World" took on a...
" and "Third World
Third World
The term Third World arose during the Cold War to define countries that remained non-aligned with either capitalism and NATO , or communism and the Soviet Union...
" country for two equally skilled (or unskilled) sets of workers. When this economic reality is exploited by "First World" manufacturers, the benefits accrue to "First World" shareholders and consumers (and slightly improved work condition of exploited Third World workers) at the expense of privileged "First World" workers and their status in the "middle class
Middle class
The middle class is any class of people in the middle of a societal hierarchy. In Weberian socio-economic terms, the middle class is the broad group of people in contemporary society who fall socio-economically between the working class and upper class....
".
An unquestioningly open policy in such circumstances may effectively devalue "first world" human capital investments in favor of financial capital investments. Consider for example, a person deciding whether to invest in training as an engineer or in a portfolio of financial assets. Offshoring
Offshoring
Offshoring describes the relocation by a company of a business process from one country to another—typically an operational process, such as manufacturing, or supporting processes, such as accounting. Even state governments employ offshoring...
dramatically increases the effective supply of engineers, and as a result, their price will tend to decline (or grow at a slower rate). This decline will be increased by the lower cost of living in non-first world countries that would allow an engineer there to live much better on a lower nominal salary than their first world counterpart. (see purchasing power parity
Purchasing power parity
In economics, purchasing power parity is a condition between countries where an amount of money has the same purchasing power in different countries. The prices of the goods between the countries would only reflect the exchange rates...
). This obviously is resulting in a huge immigration of skilled professionals from first-world countries to the third world, seeking a better quality of life.
Faced with such prospects, rational economic agents will tend to avoid investing in human capital in areas that are vulnerable to such government-induced devaluation. Instead, they will shift training toward areas that are protected by regulation (for example : careers in law
Law
Law is a system of rules and guidelines which are enforced through social institutions to govern behavior, wherever possible. It shapes politics, economics and society in numerous ways and serves as a social mediator of relations between people. Contract law regulates everything from buying a bus...
, medicine
Medicine
Medicine is the science and art of healing. It encompasses a variety of health care practices evolved to maintain and restore health by the prevention and treatment of illness....
, government
Government
Government refers to the legislators, administrators, and arbitrators in the administrative bureaucracy who control a state at a given time, and to the system of government by which they are organized...
) or social tradition (tenured academia), or socio-cultural factors (sales) or local physical requirements (nursing, medicine, construction). Alternatively, rational economic agents in "first world" economies may choose to invest in financial assets instead of human capital — further eroding the long term ability of the "first world"
country to produce and grow. As predicted by Adam Smith, this effect would reduce the inequality between First World and Third World countries, increasing overall fairness.
Additionally, since cost of goods sold tends to be a larger component of total revenue than profits for most industries, production within a country may keep a larger portion of the total wealth within the local economy in comparison to dividends of profits and reduced prices on consumer goods. Furthermore, infrastructure investments may be reduced when production is shifted offshore. Over the longer term, such reduced local investments may reduce longer term productivity and economic growth. Neomercantilist economies on the other hand are often characterized by higher long term growth rates (that tend to flatten when neomercantilist policies are halted). This claim unfortunately is not verified among developed nations, where Australia is both the main proponent of international free trade and among the first world countries, the one with the higher sustained growth during the last fifteen years. Also, as of February 2009, Australia is also the only developed country who is not officially in recession.
The language of neomercantilist policies repeats the claims of earlier centuries that protective measures benefit the nation
Nation
A nation may refer to a community of people who share a common language, culture, ethnicity, descent, and/or history. In this definition, a nation has no physical borders. However, it can also refer to people who share a common territory and government irrespective of their ethnic make-up...
as a whole and that governmental intervention secures the "wealth of the nation" for future generations. In doing so, neomercantilist admit that the interests of large corporations might as often be represented and protected as pushed aside for the national interest.
As a neomercantilist nation's industrial production capacity and improving research and development grow as a threat to the hegemon's (who usually unilaterally practices free-trade as Britain in the 19th century and the USA in the late 20th century) domestic markets, so protectionism is the usual response, initially through political and, when necessary, military means (see World War I
World War I
World War I , which was predominantly called the World War or the Great War from its occurrence until 1939, and the First World War or World War I thereafter, was a major war centred in Europe that began on 28 July 1914 and lasted until 11 November 1918...
).
United States and Germany in 19th century
By 1880 the United States passed the British Empire in economic strength — ahead of Germany, second in strength, due to Bismarck's adherence to similar neomercantilist policies.After 1900, Britain was unable to remain an effective hegemon, having followed its "free trade" philosophy since the 1840s, but the United States was still pursuing policies of its American School
American School (economics)
The American School, also known as "National System", represents three different yet related constructs in politics, policy and philosophy. It was the American policy for the 1860s to the 1940s, waxing and waning in actual degrees and details of implementation...
rooted in Hamilton
Alexander Hamilton
Alexander Hamilton was a Founding Father, soldier, economist, political philosopher, one of America's first constitutional lawyers and the first United States Secretary of the Treasury...
's three reports, that it had embraced in the 1860s under Abraham Lincoln
Abraham Lincoln
Abraham Lincoln was the 16th President of the United States, serving from March 1861 until his assassination in April 1865. He successfully led his country through a great constitutional, military and moral crisis – the American Civil War – preserving the Union, while ending slavery, and...
. Germany followed Otto von Bismarck
Otto von Bismarck
Otto Eduard Leopold, Prince of Bismarck, Duke of Lauenburg , simply known as Otto von Bismarck, was a Prussian-German statesman whose actions unified Germany, made it a major player in world affairs, and created a balance of power that kept Europe at peace after 1871.As Minister President of...
's policies based on Friedrich List
Friedrich List
Georg Friedrich List was a leading 19th century German economist who developed the "National System" or what some would call today the National System of Innovation...
's "National System", and American economic practices — allowing both powers to continue their dominance in world economics and power. Germany chose to use its strength to pursue a 'balance of power' with the British Empire leading indirectly to World War I, whereas the United States refrained from European power struggles through its foreign policy of 'isolationism' or non-interventionism in foreign conflicts.
Criticism
Classic liberal economic theory states that free trade, sound money, and prosperity are mutually interdependent parts of a single economic policy but, when inflationInflation
In economics, inflation is a rise in the general level of prices of goods and services in an economy over a period of time.When the general price level rises, each unit of currency buys fewer goods and services. Consequently, inflation also reflects an erosion in the purchasing power of money – a...
intruded into the world trade system, protectionism followed.
In Two Hegemonies, Pigman describes a hegemon's principal function as, "...underwriting a liberal international trading system that is beneficial to the hegemon but, paradoxically, even more beneficial to its potential rivals." As it grows in significance, the hegemon expands its sphere of influence to include interests that have to be promoted through liberal economic policies. During this period, the hegemon will benefit directly from the increased international trade. But other economies also prosper. They are not burdened with high defence spending and the costs associated with overseas development. The "hegemon's dilemma" is whether to revert to neomercantilist policies if its hegemony is threatened, or to continue free trade and risk a relative decline. History suggests that all the global powers experience a period of growth under mercantilistic policy followed by a period where they are benign and focused on promoting international peace and liberal trade which is followed by a period of contraction when they become progressively more unstable.
Game theory analysis — trade policy as iterated prisoner's dilemma
Trade Policy is perhaps best viewed economically as an ongoing iterated / repeated prisoner's dilemmaPrisoner's dilemma
The prisoner’s dilemma is a canonical example of a game, analyzed in game theory that shows why two individuals might not cooperate, even if it appears that it is in their best interest to do so. It was originally framed by Merrill Flood and Melvin Dresher working at RAND in 1950. Albert W...
game.
The prisoner's dilemma is not a zero-sum game. Everyone would be better off if all players cooperated than if they defected. (Mutual cooperation is a Pareto improvement over mutual defection). Unfortunately, each player has an incentive to defect against their opponent. By defecting a player can defend themselves against an opponent's defection, and can exploit a cooperating opponent.
In single-shot
Single-shot
Single-shot firearms are firearms that hold only a single round of ammunition, and must be reloaded after each shot. The history of firearms began with single-shot designs, and many centuries passed before multi-shot designs became commonplace...
prisoner's dilemma, the economically dominant action is to defect.
However, trade policy is formed over time — and is better modelled by iterated /repeated prisoner's dilemma. Key early work in this area includes research by David Kreps, and by Robert Axelrod
Robert Axelrod
Robert M. Axelrod is an American political scientist. He is Professor of Political Science and Public Policy at the University of Michigan where he has been since 1974. He is best known for his interdisciplinary work on the evolution of cooperation, which has been cited in numerous articles...
. One of the most important developments in game theory
Game theory
Game theory is a mathematical method for analyzing calculated circumstances, such as in games, where a person’s success is based upon the choices of others...
is the development of the folk theorem
Folk theorem (game theory)
In game theory, folk theorems are a class of theorems which imply that in repeated games, any outcome is a feasible solution concept, if under that outcome the players' minimax conditions are satisfied. The minimax condition states that a player will minimize the maximum possible loss which he...
when applied to iterated prisoner's dilemma games.
See also
- MercantilismMercantilismMercantilism is the economic doctrine in which government control of foreign trade is of paramount importance for ensuring the prosperity and security of the state. In particular, it demands a positive balance of trade. Mercantilism dominated Western European economic policy and discourse from...
- Free tradeFree tradeUnder a free trade policy, prices emerge from supply and demand, and are the sole determinant of resource allocation. 'Free' trade differs from other forms of trade policy where the allocation of goods and services among trading countries are determined by price strategies that may differ from...
- GlobalizationGlobalizationGlobalization refers to the increasingly global relationships of culture, people and economic activity. Most often, it refers to economics: the global distribution of the production of goods and services, through reduction of barriers to international trade such as tariffs, export fees, and import...
- New classical economics
- ProtectionismProtectionismProtectionism is the economic policy of restraining trade between states through methods such as tariffs on imported goods, restrictive quotas, and a variety of other government regulations designed to allow "fair competition" between imports and goods and services produced domestically.This...
- Mundell-Fleming ModelMundell-Fleming modelThe Mundell–Fleming model, also known as the IS-LM-BP model, is an economic model first set forth by Robert Mundell and Marcus Fleming. The model is an extension of the IS-LM model...