Ronald A. Cass* and John R. Haring**
Critics claim that international trade undermines a nation's ability
to maintain an independent national regulatory structure that would
be chosen under democratic-representative processes. The result
supposedly is a "race to the bottom" in protection of
public interests. Politicians and other commentators frequently
conclude that public welfare is reduced by open trade without some
mechanism to safeguard domestic regulation or otherwise to secure
The race-to-the-bottom metaphor builds on economic writings suggesting
that, at least under certain conditions, open trade in goods leads
to factor price equalization with reduced returns to factors that
are relatively abundant in other nations.(1) Thus, for example,
if low-skilled labor is relatively abundant outside the United States,
open trade in products intensively utilizing such labor will (according
to this theory) lead to lower real income for low-skilled American
workers.(2) That conclusion has led to calls for restraining trade,
for harmonizing divergent national rules, or for adopting uniform
transnational regulatory accords. Economists, however, debate whether
this relationship actually describes reality, noting that the conditions
from which factor-price-equalization was deduced seldom occur.(3)
Even if trade does not bring about factor price equalization, its
contribution to competition in a domestic economy alters both economic
and political activity. The transmission of competitive effects
from trade resembles the effects predicted by the race-to-the-bottom
metaphor, but trade's competitive effects generally benefit both
national economic welfare and individual liberty. The result might
be a change in regulation, including a change that would generally
be characterized as reducing the scope or bite of regulation. Contrary
to the race metaphor's implication, such changes enhance national
welfare. The paradigm for trade's effects on domestic regulations,
in other words, is provided by Tiebout, not Gresham or Akerlof.(4)
That trade promotes competition, though generally good news for
economic welfare, is both good news and bad in the world of trade
politics. Politics, after all, is to some degree-perhaps a very
large degree-a world of rent creation, and competition destroys
rents. The tendency of politics, hence, inevitably is toward too
little competition, including (especially) competition from imports.(5)
That tendency does not go unchecked, but the checks are not fully
This paper explores both economic and political aspects of the
relationship between trade and domestic regulation, looking particularly
at lessons that can be drawn from regulation of communications and
from export controls. We underscore the importance of trade as a
corrective-though only a partial corrective-for ill effects of domestic
regulation. Far from limiting the ability of national polities to
design regulation favored by each nation's citizens, trade serves
(under most conditions) to counteract antidemocratic tendencies
in domestic governance, protecting individual liberty in a world
of diverse tastes. Further, under some circumstances (ones that
seem increasingly common), trade's competition-enhancing effects
will be politically preferred to the competition-limiting effects
of trade restraints. Unfortunately, trade restrictions still will
be imposed too often, in part due to the bias inherent in democratic
politics and in part due to personal stakes of decision-makers that
are less readily deduced from interests tied to identifiable groups.
This last point emerges from examination of export controls (an
apparently incongruous set of trade rules) as well as from analysis
of import restraints.
I. PRE-RACE REGULATION
Basics of Regulation: Public Interest
vs. Public Choice
The starting point for most discussion of trade and regulation
is the unexamined assumption that domestic regulation merits protection
as the embodiment of popular preferences or alternatively as consisting
of normatively attractive programs that advance public good. That
is axiomatic if public good is defined as the outcome of governance
processes or, perhaps, of governance processes that comport with
basic norms of public-democratic decision-making. If the only test
is the base acceptability of the governance process, the great bulk
of government regulation in the "first world" passes muster.
This may be the proper test for government action in some settings-perhaps
for most forms of judicial intervention, for example-but it is hard
to see its appeal as an abstract normative standard. Actual acceptance
by a majority of citizens, creation of greater aggregate utility
or value or wealth for society, or promotion of individual liberty
might be better normative goals for government.(6)
Unlike the assumption in the race metaphor, there is little evidence
that much government regulation comports with those abstract norms.
Writings in the public interest genre often assume that government
regulation is both intended to and in fact does promote widely accepted
normative goals, such as efficiency, but those writings do not explain
the mechanism for creating public- interested regulations nor do
they seriously assess the fit between government action in practice
and the posited norm.
Public choice writings, which see government action as the product
of self-interested individual behavior, predict systematic divergence
of public actions from general public interests.(7) On this view,
government action typically serves the interests of individuals
who can band together in sufficient number at low enough cost to
secure a favorable vote on an issue of relatively intense interest
to them.(8) The interests of a majority of citizens can be served;
just as commercial markets composed of individual actors pursuing
their individual interests can produce public benefit, so too can
government (under certain conditions).(9) For example, government
can provide public goods-national defense, interstate highways,
legal recognition of property rights, protection of public safety-that
would be underproduced in private markets.
Even so, the public choice model finds relatively little probability
of beneficial government action. The opportunity to create rents
for particular groups-benefitting a discrete group while doing much
greater harm to the broader public, though seldom visiting a concentrated
harm on anyone-has enormous political attraction. The tendency to
create rents (typically by restricting competition) does not go
unchecked. Three considerations act as counterweights to rent-seeking
by interest groups. First, one person's rents are another person's
costs. So far as the costs are visited on politically powerful groups,
they will act to constrain the rents. Second, though rents commonly
are more concentrated (on the supply side) than costs from them
(the consumption or demand side), rents can be dissipated in various
ways and often will be substantially smaller than costs.(10) Third,
political decision-makers' incentives will not be fully formed by
the balance of rents and costs; other factors will affect the decisional
calculus and may tilt it in a direction at odds with what many versions
of interest group theory would predict.(11) All of these considerations-as
well as direct economic effects-influence the political interaction
between trade and regulation.
With some regularity, however, government action produces concentrated
benefits for a relative few at greater cost to the many. Even where
the government seems to be producing public goods, its actions have
questionable benefit. In part that is because private markets, though
underproducing public goods, still produce a significant level of
public goods.(12) The comparison of government to private action,
hence, cannot compare a world with government-provided public goods
to a world bereft of public goods. Further, where government acts
to provide public goods, it is apt to provide too many, largely
because overproduction can generate private benefits that will be
more concentrated than the public costs.(13)
In line with public choice predictions, writers who have examined
regulatory programs critically find that many of them suppress competition
in an industry, raising prices to consumers and returns to those
who are in the industry.(14) Often the regulatory program combines
rules that limit competition with ones that mandate cross subsidies
(redistribution of joint costs in a manner inconsistent with Ramsey
pricing) among services or customers.(15) These regulatory schemes
are at odds with allocative efficiency and possibly with other attractive
Effects of Government Regulation: Efficiency Concerns
Most serious inquiries into regulations' congruence with public
welfare have used efficiency as the standard and have found a series
of problems. For the balance of this paper, we assume that the relevant
norm is Pareto-efficiency or efficiency under the Bergson-Samuelson
social welfare criterion. Regulatory initiatives that mandate (or
induce) inefficient pricing tend to reduce output-and wealth-in
the regulating nation. Regulation commonly misdirects resources
within the regulated industry.(16) Under most conditions, that misdirection
is not simply an offset against other distortions in the economy
(although that is a theoretical possibility).
In addition, regulation also commonly has indirect effects that
reduce efficiency, effects tied to the overall level of government
intervention rather than to a specific single regulatory scheme..
Three such effects are rent-seeking, lower returns to productive
investment, and x-efficiency effects.
First, regulation induces what Professors Jagdish Bhagwati and
Ted Srinivasan have termed "directly unproductive" activities
and others have termed "rent-seeking" activities: those-lobbying,
litigating, and so on-intended to secure, enforce, or retain inefficient
regulations.(17) The higher the level of inefficient regulation
in a jurisdiction, the more resources are likely to be diverted
to unproductive activities. That will occur because the high level
of inefficient regulation most likely will be taken as a signal
of decision-makers' greater propensity to enact inefficient regulation
(which raises the expected returns from lobbying, etc.). Moreover,
some people who would not find it worthwhile to invest in lobbying
merely to move from a competitive arena to a favorable regulatory
regime (given their expectations about the magnitude and durability
of any rents that might be generated under such a regime) may make
a different calculus if they believe that they are choosing between
investing in gaining a favorable regime or failing to invest and
facing a hostile regulatory regime.
Second, high levels of inefficient regulation, and corresponding
investment in unproductive lobbying activities, reduces productive
investment incentives. If the prevalence of regulation suggests
a heightened propensity to regulate, it suggests a greater probability
of future regulation and of the losses that regulation can impose.
The prospect of such losses must be considered in making investment
decisions.(18) Of course, the prospect of gains from regulation
will be offset against the potential losses. The net in this calculation,
however, should be negative. The expected return on lobbying investment
should be the competitive rate of return, and gains from regulation
generally should follow lobbying investments; but the costs associated
with regulation will be spread throughout the economy, lowering
the expected rate of return to investment generally. So far as there
are captive assets within the jurisdiction, their price will decline
to reflect the lower expected return so that, in equilibrium with
fully mobile capital, investment will generate the same real expected
return. But these conditions are unlikely to hold; capital restrictions
and factor mobility will lead to real variance in investment returns
over time periods long enough to have consequence for investment
The third indirect effect of high levels of inefficient regulation
in a polity is the creation of competitive slack, referred to variously
as x-efficiency, x-inefficiency, or technical inefficiency. This
will not be the result of all regulation, but occurs as a by-product
of regulation that reduces competition.
X-efficiency is a concept that is not universally accepted; some
academic commentary points out that, contrary to the notion of x-efficiency,
even a fully protected monopolist has economic incentives to technical
efficiency in production.(19) Indeed, because the monopolistic firm
(or more broadly, the firm with market power) is more likely than
a firm operating in a fully competitive market to capture the benefits
of innovations that increase technical efficiency, it is arguable
that monopoly reduces such inefficiency rather than causing it.(20)
For similar reasons, Judge Richard Posner discounts the prospect
of monopoly inducing inefficiency through shirking. The common ground
for both sides of the debate is that the absence of competitive
pressure systematically produces not only higher monetary returns
to producers but also higher nonmonetary returns. Presumably, these
are offsets, one against the other: personal utility functions include
willingness to purchase a variety of goods in exchange for money,
including a degree of protection against vigorous policing; and
the salaries of the workers who enjoy decreased pressure to work
hard should be reduced commensurately to account for their increased
slack. Judge Posner, however, drawing on standard agency-cost analysis,
observes that so far as the reduced monitoring/increased shirking
impairs efficient production and is not offset by appropriate reductions
in pay (fully reflecting reduced productivity) an efficient capital
market will punish the firm and make it an attractive target for
The x-efficiency question in general, thus, is whether the increased
slack associated with market power will at any point affect the
manner of production so that productivity is decreased or product
design is irnpaired or innovation is reduced-and, if so, whether
such effects are efficiently monitored by and reflected in capital
markets. Those who doubt the reality of x-efficiency believe that
efficient capital markets and labor markets adequately control for
the potential effects of monopoly power on technical efficiency.
Regulation, however, is different from other bases for market power.
Regulation can reduce competition and inhibit full functioning of
the normal adjustment mechanisms. For example, regulation that constrains
both entry and rates of return can induce inefficient investment
in systems redundancy or in other forms of "gold-plating"
that can increase the base on which returns are calculated.(22)
If salaries for top managers are politically sensitive and affect
treatment by a regulatory authority, managers might substitute investment
in the managers' offices for incremental additions to salary. In
neither case is it obvious that the regulatory authority will perfectly
police the investments, so that the inefficiency could be consistent
with maximizing returns to the regulated firm.(23) Similarly, it
is plausible to expect inefficient use of inputs by firms that are
at once protected from competition and denied full incentives to
capitalize on their market power. The normal take-over option often
is unavailable given regulatory constraints on ownership as well
as on entry. For these reasons, x-efficiency effects are a likely
by-product of regulation, even if not otherwise prevalent in advanced
Regulation and Efficiency: End-Notes
Although we believe that regulation tends to generate inefficiency
effects, including x-efficiency effects, two caveats must be noted.
First, we do not equate the observation of a tendency to inefficiency-inducing
government action with a conclusion that all government action is
normatively unattractive. Apart from the question of the right normative
standard for judging government action-which would require examination
of our assumed standard of Pareto-preferred or Bergson- Samuelson-preferred
choices-that conclusion would have to rest on a comparison of real-world
alternatives, including alternative institutional arrangements.
We have not made that investigation. We do, however, conclude from
our observations above that it would be wrong to deem all government
action normatively attractive. Contrary to the assumption behind
much rhetoric about trade and regulation, the mere fact that a regulatory
regime exists is not proof that it is beneficial to the public;
that a contemplated action undermines a regulatory regime is not
proof that it is inimical to the public. Indeed, our prior is that,
in many circumstances, the obverse more often is true.
Second, even if the effects are not fully dissipated through various
adjustment mechanisms at any point, the effects of regulatory inefficiencies
will be equilibrated through labor and capital markets. Our comments
on x-efficiency are not to the contrary. Indeed, one major effect
of high levels of regulation is to lower real wages throughout a
jurisdiction by acting as a drag on productivity. The reduction
in wages does not mean that wages in high-regulation jurisdictions
inevitably fie below wages in low-regulation jurisdictions. Given
its common adverse effect on productivity, we expect regulation
to be correlated positively with wealth and, hence, with productivity.(25)
High-regulation jurisdictions will tend to be high-productivity
jurisdictions, but high-regulation jurisdictions will have lower
productivity than they would have but for excessive government regulation.
As we discuss below, recognition of that fact is implicit in much
of the agitation for harmonization of regulation across jurisdictions.(26)
The question in the trade-and-regulation discussion, thus, is neither
how we prevent the erosion of domestic regulatory programs nor how
we induce markets to adjust to regulation. The question must be
whether the effects of liberal trade, which influence on-going market
adjustments, are positive or negative in the particular changes
they induce in domestic regulation.
II. REGULATION AND BUSINESS DECISIONS
The lever commonly focused on for transmission of trade's effects
is the decision for businesses to locate production in a particular
jurisdiction. The fear of some commentators, and hope of others,
is that businesses will move production (locate productive facilities
or increase production at such facilities) to jurisdictions that
regulate less. Open trade, on this hypothesis, leads to pressure
on governments to reduce regulations to levels consistent with exporting
jurisdictions. The hypothesis leads different commentators to advocate
freer trade, less free trade, or greater coordination of regulations
across jurisdictions. Before looking at the transmission mechanism,
we pause to ask how regulation intersects business interests.
Regulation and Business Desiderata
Business decisions depend primarily on the specific effects of
regulation on a particular business, not on overall levels of regulation
or their efficiency effects (though both considerations inform those
decisions). From the standpoint of any business, regulation can
be good or bad. Regulation can increase or decrease that business's
costs or its returns, and it can do so in a one-off manner or in
a way that affects marginal costs or marginal revenue. Although
a large enough one-time effect can alter production location decisions,
those decisions generally will turn on expectations for the marginal
costs and marginal revenues of the business.
Revenues might be increased, for instance, by rules that protect
local production against competition. Most of these rules, while
dampening competition-offsetting an advantage a competitor who is
unable (less able) to influence regulation would have in an unrestrained
market-do not keep competition fully at bay. The rise of non-price
competition among airlines that were constrained in price competition
under regulation is a frequently noted example.(27) Similarly, location
of inefficient scale production in a nation too small to sustain
efficient-scale production on the basis of home market consumption
often reflects competitive adjustments to regulations that inhibit
imports and limit domestic competition.
On the cost side, regulation can help business by lowering marginal
costs or harm a business by raising those costs. Rules that reduce
the chance of disruptive labor unrest or currency instability or
worker illness, that lower the cost of transporting workers to factories
or goods to market, or that make it less costly to enforce contracts
decrease businesses' marginal costs. Regulation of this sort helps
attract business. In contrast, business incentives to locate in
the regulating locale are reduced by regulations that impose conditions
on work practices costing more than their benefits in greater safety,
workers' job satisfaction, or other good; or by rules that limit
production methods to achieve gains not internalized by the business
(such as environmental improvements that the business will not receive
credit for from its customers-at least not enough credit to offset
the costs of compliance plus the costs of alerting its customers
to the good deed it has done).
Not all regulation that appears adverse to business interests will
result in higher marginal costs for business. In many circumstances,
additional costs imposed by regulation will be absorbed without
affecting marginal costs of production. Land use regulations, for
example, tend to be capitalized into the price of land, with new
regulatory impositions effectively creating windfall losses (or
gains) to affected landowners.(28) By and large, however, the effects
of regulation will not be fully captured in ways that do not affect
on-going business calculations.
Regulations that affect marginal costs and revenues typically divide
between sectoral business regulation and general, economy-wide regulation.
Sectoral regulation often will advantage a particular business,
increasing revenues through direct subsidies (to agriculture, for
example) or restrictions on competitive entry. The latter restrictions
include direct limitations (as in licensing schemes), import quotas
(as with audiovisual industries outside the United States and textiles
including the United States), and entry-disadvantaging technical
Although these restrictions are sought by business and serve immediate
business interests, it is less clear that they promote long-run
health in the protected industry. Indeed, outside a few, narrowly
circumscribed exceptions,(29) unless they are effective at preventing
trade (which often is an intended consequence), competition-limiting
sectoral regulations will tend to serve as inducements to trade
by increasing the gap between the insulated industry's firms and
firms producing the same good outside the protected jurisdiction
that compete in the global market.(30) Nonetheless, it seems fair,
based on short-run effects, to class sectoral regulation generally
as marginal-revenue enhancing.
Environmental and Labor Regulation
In contrast to sectoral regulation, which typically is friendly
to the most interested domestic business firms, much of the general,
economy-wide regulation in advanced economies raises marginal costs
for domestic business. Labor and environmental regulations-the focus
of so much political attention in the trade-and-regulation debates-largely,
but not entirely, fall into these camps.
Let us start with the qualifying phrase, "not entirely."
Some environmental regulations may improve health and increase aggregate
utility without affecting marginal costs, so far as the environmental
gains are internalized within the regulating jurisdiction and the
regulatory program represents an efficient mechanism for satisfying
workers' tastes for higher air quality or water quality than would
otherwise be provided.(31) Some set of labor rules, at least if
treated as waivable, default rules, may fit the same model.(32)
But, for the reasons given in the public choice literature, these
will be exceptional.
The divergence of environmental regulations from public interests
follows from the general disinterest of most citizens about environmental
issues coupled with intense interests of several groups. Three groups
can be expected to play a disproportionately (relative to voting
population or overall value attached to decisions) large role in
setting environmental rules. The first group consists of people
with unusually high taste for environmental protection. Their interests
will be represented both by political entrepreneurs and by individuals
whose profession is the representation of others with unusually
intense preferences for environmental protection.(33) The second
group consists of people whose livelihood is tied to activities
congruent with those tastes for environmental protection. That group
includes people in firms engaged in environmental clean-up, in the
production of technologies that are-or, at least, that seem to be-environmentally
friendly, and those whose businesses use production methods that
are less efficient but more environmentally friendly (in some dimension)
than their competitors. The third group consists of people whose
livelihood is closely tied to activities especially harmful to the
environment, such as those in the leather tanning industry. As Bruce
Ackerman and William Hassler's study of the process that produced
the economically and environmentally disastrous coal scrubbing rules
illustrates, the compromises among these groups almost certainly
will produce rules that are neither efficiently tailored to environmental
protection nor representative of median citizen preferences.(34)
Labor regulations generally follow a similar course. The group
most intensely interested in labor regulations consists of people
who, in a market not subject to those regulations, would not be
able to secure the result mandated in the rules.(35) Thus, people
who would not be hired or promoted or retained in jobs but for a
legal imposition have a greater interest in the legal order than
those who expect to be similarly positioned in any event. People
who expect to be paid far in excess of the minimum wage, who do
not expect to face discriminatory job actions, who expect to have
the ability to secure employment settings with appropriate pay and
perquisites seldom invest in lobbying or other efforts in respect
of labor regulations. How many managers who now complain about,
for example, the Americans with Disabilities Act (or its state analogues)
invested in the legislative debate that framed the act?(36)
Lobbying on labor rules is not, of course, wholly one-sided. Business
firms and their representatives routinely contest against labor
rules that organized labor presses for, but the contest is uneven.
The reason for that reflects the basis for the increased concern
over trade among organized labor's representatives: while labor,
especially low-skilled labor, is only modestly mobile, capital is
immensely mobile, is to some degree a substitute (as well as a complement)
for labor, and can seek other venues if labor rules become overly
constraining. Hence, business representatives do not have the same
intensity of interest in the contest as representatives of that
segment of labor most affected by the rules. This does not mean
that the labor interest necessarily prevails. After all, the skew
of interest groups operates as an overlay on the dominant influence
of the median voter.(37) But the skew generally will be in the direction
of too much regulation to protect organized labor interests. And,
other things equal, the larger and more prosperous the regulating
jurisdiction, the more exaggerated this skew is likely to be.(38)
III. EXPORT CONTROLS: ANOTHER REGULATION,
Almost all discussion of trade's intersection with regulation focuses
on the manner in which imports affect regulation or regulation affects
imports-either domestic regulations are threatened by imports or
foreign regulations operate to frustrate imports (which we care
about because those are our exports). Economists view exports as
necessary to pay for imports, much as giving away something of value
in a barter deal is needed to induce the other party to give something
of value to you. What makes the deal work is that each party gets
something he values more than what is traded away. From a national
welfare vantage, exports are good only so far as they make welfare-
improving imports possible. The real good is imports.
In the politics of trade, things are reversed: the basic rule of
trade politics is that imports are bad, but exports are good. Each
of those claims responds to the natural bias of public decision-
making in favor of readily identified, easily organized, groups
of people intensely interested in an issue. That often translates
to a bias in favor of producers of the good at issue. Domestic producers
do not want to face competition (from imports or otherwise) in their
businesses, and are more likely to achieve success in combating
import competition than other domestic competition.(40) Domestic
producers also want to sell into other markets, and (without opposition,
at least not on an equal footing, in the domestic political market)
are likely to find domestic politicians sympathetic to that interest.
The Politics of Export Control
This account of the common tendencies of trade politics leaves
us with a question: if those tendencies explain import constraints
and export promotion, how can we account for export controls? Export
controls generally provide gains to a broad, diffuse, unorganized
populace (so far as the controls are effective) while the losses
are borne largely by a few producers. That formula seemingly should
work against the imposition of controls, and yet export controls
are imposed with some frequency, often in circumstances where, because
of the availability of close substitute sources of supply, they
are seemingly incapable of producing any beneficial consequences.(41)
J. David Richardson estimates that export controls cost the U.S.
economy about $29 billion in lost export sales in 1991, and other
commentators have given significantly higher estimates.(42)
Export controls can be explained readily in only two or
maybe one-and-a-half-instances. First are "voluntary export
restraints," which are a combination of import restriction
and cartel facilitation.(43) That fits the standard public choice
explanation of political decision-making. Similarly, export controls
involving restrictions on export of natural resources present a
more traditional setting for government action. In these cases,
the principal consumers (for whom the resources are inputs to production
of other goods) frequently form a more concentrated group than producers.
Because export controls tend to reduce the price of the exportable
good, this may be a case of relatively concentrated benefits and
more diffuse costs.(44)
The more common sort of export controls, however, involving finished
goods appear to present the opposite situation. This poses something
of a conundrum for public choice theory. We offer two hypotheses
that might bridge the apparent gap between fact and theory.
Recalibrating Value and Cost
One hypothesis is that the apparent misfit between export controls
and public choice theory disappears on examination. The reason is
that both the value and cost of export controls might differ from
what appears at first blush.
Let us start with the benefit side. Typically, the value assigned
to export controls is their effect at preventing negative externalities.
That goal is served most obviously by denying an enemy goods that
are helpful to that nation and harmful to the restricting nation.
Alternatively, the goal is served by influencing actions of a regime
that is at least potentially hostile to the restricting nation.
Again, the obvious means of influence through export controls is
to threaten denial of access to important goods. Frequently, however,
export controls are imposed despite the fact that the restricting
nation lacks the ability to deny the target nation access to the
restricted goods.(45) On its face, these instances seem to be all
cost, no benefit government actions. Even for the most skeptical
observers of government, that is an implausible paradigm.
The first place to look, then, to unravel this enigma is the supposition
that the control yields no benefit. If the exporting nation cannot
deny technology to an opposed nation, what is gained by export controls?
In addition to the goal of denial, export controls also could serve
three other goals for national policy: delay, cost-raising, or signaling.
Where denial aims to prevent the target nation from acquiring the
restricted good, delay seeks only to maintain some temporal advantage
in access to the restricted good. This goal is sometimes derided-it
is, on its face, a strategy that results merely in being eaten by
the alligator slowly rather than all at once. But, in many circumstances,
it may be preferable to be eaten by the alligator more slowly, especially
if slow and fast are the only alternatives. To take an example from
another context, a dominant firm confronted by entry rarely has
the option of maintaining its profits at pre-entry levels, but it
often can optimize the trade-off between cutting prices and losing
The third goal, cost-raising, is more modest yet. In some circumstances,
even delaying access to a good is difficult (i.e., too costly).
Still, in many contexts, competitors can gain an advantage from
raising rivals' costs.(47) Restrictions on export are Rely to do
this to some degree even if they are only partially successful,
in part for the same reason that trade theorists generally favor
multilateral liberalization and oppose reciprocal trade agreements:
unimpeded, trade will tend to take its most efficient route, while
constraints that apply differently to different sources or destinations
for trade, even if they cause minimal distortion in production,
will cause trade to be diverted to second- best channels.(48) Inevitably,
there is additional cost associated with trade diversion. Further,
if restrictions remove many of the most efficient sources of supply,
the effect on rivals' costs-and competitive advantage-could be significant.
Some observers have opined that the effect of the mulitnational
export control regime directed against the Soviet Union the
Coordinating Committee for Multilateral Export Controls (COCOM)
largely was of this provenance, increasing Soviet expenditures
for technology, including expenditures on espionage and bribery
to acquire technology from the west and expenditures on less efficient
production of similar technology at home.(49)
Finally, even if utterly ineffective at any of the goals set out
above, the "gesture" of restricting exports may possess
(political) utility. The action serves as a signal. It lets both
domestic and foreign audiences know what we think of particular
nations at specific times. The signaling effect may be especially
useful if it can be calibrated by the sort of goods in which trade
is limited. When you don't get F-18s or Minuteman missiles, that
is one thing; when you're off the list to receive silicon chips,
that's another; when you stop getting potato chips, things are really
serious. The signal of export controls is almost certainly more
clear than most diplomatic language and less dangerous than even
very moderate military options (such as calling up reserves or other
steps toward mobilization).(50) A signal of this sort may well influence
action by other nations despite its hollowness as a serious constraint
on acquisition of restricted goods.
The value of export controls as foreign policy tools, thus, may
be substantially greater than would appear from their ability to
constrain access, but that still does not answer the question, why
would public decision processes favor using this tool? Perhaps this
is an example of a general public interest so widely shared and
deeply held that officials charged with the government's foreign
policy functions-and elected officials whose assent is significant-gain
from acting as political entrepreneurs championing this interest.(51)
That seems a plausible explanation for export controls aimed at
the Soviet Union and associated states. As with many issues of general
public policy, some members of the public are apt intensely to favor
particular policies while others strongly oppose them. Political
benefits from export controls flow not simply from general public
support but asymmetrically from those who are most intensely supportive
of the particular controls.(52) The analysis can be extended beyond
the decision to impose sanctions to the type of sanctions imposed.(53)
Hence, even if producer interests play a disproportionate role in
decisions respecting export controls, there may be sufficient incentive
for officials to impose controls.
The other side of the cost-benefit equation the cost of
export controls to producers may be more amenable to these
decisions than would first appear. The principal effect of export
controls in many but by no means all instances will
be to alter trade patterns rather than to change any firm's sales.
Consider the following hypothetical example. We begin with three,
not implausible, conditions: 1) a world market exists for the class
of products at issue, with neither production nor consumption concentrated
in a single nation; 2) economies of scale are exhausted at volumes
of production below the level of consumption (under current conditions
and at current prices) in a large economy; and () products in this
class are differentiated but are reasonably close substitutes. Under
these conditions, products will travel across borders, with some
imports shipped even to nations that are net exporters of the products
at issue. Let the principal producer-exporter nations in this hypothetical
be the United States, Japan, and the members of the European Union.
When export controls are introduced by one nation-say, a U.S. restriction
on sales to Iraq a short-run shift in supply occurs in that
nation as domestic (US) producers seek to sell goods in the home
market that previously were expected to be sold in the embargoed
market (Iraq). Demand for imports of the product class from noncontrolling
nations (Japan and European nations) falls in the controlling nation
(the United States), but demand for these imports rises in the embargoed
nation (Iraq). Supply from other nations shifts from the controlling
nation to the embargoed nation (so that US sales to Iraq are replaced
by Japanese or European sales while similar sales of Japanese or
European products to U.S. customers are replaced by sales from US
producers). Although trade flows change, the new equilibrium output
for each firm need not differ appreciably from prior output levels.
Under these conditions, although producers of the controlled products
will object to export restrictions, the objection may be quite muted.
The restrictions will have an adverse effect on the producers, but
the effect need not be large. Indeed, the less effective the government
is at gaining international support for the restrictions, the less
harm may be done to domestic producers.
Asymmetric Official Incentives
An alternative, and quite different, explanation for export controls
is that self-interested behavior of public officials, not serving
broader public interests, produces a bias toward overimposition
of controls even though the controls impose a real and serious cost
on the restricted domestic industries.(54) This hypothesis tracks
Sam Peltzman's explanation for the Food and Drug Administration's
bias toward too much delay in approvals for new drugs.(55) Peltzman
observed that if a drug was approved that created significant harm
to those who used it, the officials who approved the drug would
be castigated. If, however, many people were harmed by delays in
approval of beneficial drugs, that would lead to less criticism.
One error produces costs that are quite readily visible to the public
the Thatidomide scandal, for instance while the opposed
error does not.
With drug approvals, as with export controls, there is a concentrated
harm from the less publicly visible error-the companies that seek
drug approvals lose profits from the sales they would have made
just as the would-be exporters lose profits from the export sales
forgone. But in neither case is the risk of offending these firms
as great a problem for the public official as the risk of public
scandal from an erroneous affirmative grant of authority. The public
outcry over our sales of scrap metal to Japan preceding World War
II and of arms to Iraq preceding the Gulf War are illustrative.
Perhaps in these circumstances the diffuse public interest in national
security is replaced by more personal but still very widespread
concern that the offending action could be responsible for
the loss of a loved one, a family member or friend. Or perhaps in
some instances public-interested considerations have greater effect
on citizens' behavior than considerations tied more directly to
their private interests.(56) These are not matters as to which we
have sufficient information to draw definite conclusions. We suspect,
however, that some aspect of each hypothesis explains the seeming
anomaly of export controls.
International trade offers the prospect of increased competition
for many businesses. That competition will increase complaints about
trade, including complaints that trade undermines domestic regulation.
Indeed, trade does in some instances undermine domestic regulation
precisely because it increases competition. Firms competing with
businesses that are not subject to the same regulation may agitate
for regulatory change to reduce burdens that raise the prices of
domestic firms' products, and in some instances they will secure
the kind of change they demand. The successive changes in the structure
of many countries' telecommunications services largely tells a story
of this type.
Such changes, though inevitably decried by some, generally will
benefit the public. Much of the regulation that will be altered
is supported primarily by intensely interested groups despite its
costs to a larger portion of the public costs that tend to
be significantly larger than gains to the regulations' proponents.
Increased competition will help redress the political imbalance
between those who are helped and those who are hurt by much regulation.
Not all regulation is inimical to public interests, and some that
will be under pressure as a result of trade could be regulation
that is relatively helpful to public welfare. These instances in
the main will involve spillover effects captured to different degrees
in various nations. In such settings, there is a clear role for
international agreement to regulate harms that are not sustainably
regulable by individual nations with open trade. Even here, however,
trade closure almost surely will not be a first-best solution and
is not predictably the best second-best solution.
The opposition to trade's effects, captured in the race-to-the-bottom
metaphor, misleads in arguing that there is a simple, direct connection
between trade and regulatory change, in arguing that the change
leads to a single, low-regulation system globally, and in arguing
that the change impairs domestic welfare. In fact, regulation will
change at different paces in a variety of ways, at times moving
against the grain that increased trade-generated competition suggests.
Trade rarely will lead to a single, uniform regulatory system. And
the change will tend to promote, not impair, welfare, as the strong
tendency is toward too much restriction of competition, including
too much restriction of trade even in circumstances where
trade restriction seems at odds with conventional political dynamics,
as with export controls. The one place the race to the bottom seems
to be occurring as trade expands is in the rhetoric used to describe
how trade and regulation interact.
Copyright: Ronald A. Cass & John R. Haring 1998. Prepared for
1998 General Meeting of the Mont Pelerin Society. Printed with permission.
* Dean and Melville Madison Bigelow Professor of Law, Boston University
School of LAw; Member, Vice Chairman, U.S. International Trade Commission,
** Principal, Strategic Policy Research; Chief Economist and Chief,
Office of Plans & Policy, Federal Communications Commission,
- Stolper & Samuelson, 1941; Samuelson,
1948; Samuelson, 1949.
- Murphy & Welch, 1991; Borjas, Freeman
& Katz, 1992. But see Bhagwati, 1968 (trade-linked welfare
reduction, like growth-linked welfare reduction, traces to underlying
welfare-distorting policy, not independently to trade or growth).
- Deardorff, 1986.
- Compare Akerlof, 1970, with Tiebout, 1956.
Although the Tiebout (voting-with-the-feet) effect can only reach
Pareto-efficient results under certain conditions, Buchanan &
Goetz, 1972, it suggests a mechanism for achieving closer correspondence
of preferences and public choices. In that respect, it is closer
to the trade paradigm than are the various incarnations of lemons
- E.g., Schattschneider, 1935; Baldwin, 1985;
Destler, 1986; Bhagwati, 1988.
- We find the concept of aggregate utility helpful
despite frequently expressed reservations about it. Those reservations
go more to the mechanism for assessing aggregate utility (or changes
in aggregate utility) or to the choice of aggregate utility as
the appropriate normative standard for a given decision than they
do to the underlying notion that personal utility can have an
aggregate that is meaningful.
- See, e.g., Buchanan & Tullock, 1962.
- See, e.g., Olson, 1965.
- Note impossibility under Arrow conditions.
- See, e.g., Hufbauer, Berliner & Elliott,
1994; Buchanan, Tollison & Tullock, 1980.
- See Niskanen, 1971; McKean, 1972; Peltzman,
- See, e.g., Coase, 1974. As Coase show, the
divide between ordinary goods and pure public goods is fictive.
Markets produce many goods with significant public goods characteristics.
- Buchanan & Tullock, 1962.
- See, e.g., Friedman, 1962; Spann & Erickson,
1970; MacAvoy, 1971; Gellhorn, 1976; Hazlett, 1991.
- E.g., Posner, 1971.
- See, e.g., Haring, 1984; Mitchell & Vogelsang,
- Bhagwati & Srinivasan, 1980; Buchanan,
Tollison & Tullock, 1980; Bhagwati, 1982; Collander, 1984.
- Kaplow, 1986.
- E.g., Posner, 1975.
- Id.; Posner, 1998, at 304-05.
- Id. at 480.
- Averch & Johnson, 1962. A-J-W- effect
- See, e.g., Kahn, 1988, vol. 2 at 49-59.
- Our own belief is that advanced economies
have sufficient distortions of efficiency-inducing mechanisms,
including takeovers, that x-efficiency effects are not limited
to pervasively regulated industries.
- See also Schumpeter, 1942; Olson, 1982.
- See also Bhagwati, 1996; Cass & Boltuck,
1996; Leebron, 1996.
- See Douglas & Miller, 1974; Bailey, Graham
& Kaplan, 1986.
- The term "windfall" should be qualified
here, as the losses/gains from regulatory actions can be as predictable
as losses/gains from changes in consumers' tastes or other matters
that affect business. See, e.g., Kaplow, 1986.
- The protection of an "infant industry"
may be such an exception. See, e.g., Corden, 1971. Undeniably,
claims that conditions apposite to such protection obtain far
exceed instances in which such protection is beneficial.
- Bhagwati, 1988; Crandall, 1991; Cass &
- See, e.g., Stewart, 1993; Deardorff, 1997.
- For explication of the role of default rules
from somewhat different perspectives, see, e.g., Ayres & Gernter,
1989; Gillette, 1990.
- Public and private representatives of broadly
held interests often are treated together as political entrepreneurs,
though we use the term solely for public representatives. See
Shepsle & Bonchek, 1997.
- Ackerman & Hassler, 1981.
- We do not here posit any particular set of
legal rules or wealth distributions as defining the pre-regulation
market. We simply indicate that there is a status quo ante the
regulatory action, and whatever that is would not support the
result desired by those who seek the regulation. Were that not
so, investment in securing the regulation would be pointless..
- For discussion of difficulties with this and
other regulations, see Howard, 1994; Olson, 1997.
- See, e.g., Olson, 1965; Mueller, 1989.
- See Schumpeter, 1942; Olson 1982.
- Part IV is adapted from Cass & Haring,
1998, chaps. 4 & 9.
- Baldwin, 1985; Bhagwati, 1988; Krueger, 1995.
- Hufbauer, Schott & Elliott, 1990.
- Richardson, 1993. Richardson does not consider
restrictions on the sale of "pure weaponry" and does
not estimate costs of compliance with government export controls.
Estimates of U.S. losses from export controls on dual-use (military
or civilian) technology run as high as $125 billion. See, e.g.,
Hearings on H.R. 2912, Sep. 1993, at 13-16 (testimony of Robert
E. Allen, Chairman & CEO, American Tel. & Tel.); BNA Special
Report, Sep. 1993.
- Jones, 1994.
- We are grateful to Henry Manne for making
this point. For a description of the economies of export restraints
and their benefits to domestic consumers, see Corden, 1971, at
- Hufbauer, Schott & Elliott, 1990; Richardson,
1993; Burnham, 1994; Cass & Haring, 1998.
- See, e.g., Stigler, 1964.
- See Salop & Scheffman, 1983; Krattenmaker
& Salop, 1986.
- Lindsey, 1960; Bhagwati, 1994, This does not,
however, mean that all preferential arrangements are trade-reducing.
See Deardorff & Stern, 1994, at 27-75.
- Artemiev, 1991; Hillenbrand, 1992, at 68;
McDaniel, 1993, at 117.
- McDaniel, 1993; Cass & Haring, 1998.
- See, e.g., Ordeshook,
1986, at 184-87; Mueller, 1989, at 180-93.
- See Kaempfer &
- See Spindler, 1995.
- Cass & Haring,
1998. See also Long, 1989, at 69-107; Spindler, 1995.
- Peltznabm 1973.
- See Kau & Rubin, 1979; Kalt & Zupan,
1984; Peltzman, 1984. See also Kaempfer & Lowenberg, 1988.