Can a country live entirely on imports?

International financial and economic relations

Heribert Dieter

Professor Dr. Heribert Dieter studied political science and economics at the Free University of Berlin and received her doctorate there with a thesis on Australian foreign trade policy. In 2005 he published his habilitation thesis on "The Future of Globalization".
Dieter works as a scientist in the Global Issues Research Group of the Science and Politics Foundation (Berlin) and is an adjunct professor at the University of Potsdam and visiting professor for international political economy at the Zeppelin University in Friedrichshafen.

Trade in goods describes the exchange of goods between people. If a national border is crossed in the process, one speaks of international trade. This affects societies in different fields. It has an impact on employment and consumption, but also on politics and the environment.

Containers, standardized freight containers that can equally be transported by ship, rail or truck, have made a decisive contribution to the globalization of trade in goods, but have reduced the number of jobs in ports. One of the world's largest fully automated container ports is located in Hamburg-Altenwerder. (& copy Reuters / Christian Charisius)

Look into history

Cross-border trade is not really a new phenomenon. People from different economies have been trading with one another for centuries, and the closer they are geographically and culturally, the more so. Since the revival of the Silk Road by the Mongol rulers from the 12./13. In the 19th century there were repeated phases of intensive trade relations, but states have often turned away from cross-border trade and focused on domestic economic development. The history of the Hanseatic League in the North and Baltic Sea region in the early Middle Ages also shows these different phases. A major turning point was the Great Depression in the early 1930s, when trade fell by a full two-thirds. The history of trade policy shows no linear development towards an open world economy in which borders and barriers between states have largely been dismantled and free trade prevails.

Competition and competitiveness

At the beginning there is a seemingly trivial question: Why do people exchange goods and services with people from other economies at all? There is often the assumption that international trade is different from the trade in goods within a state, or even the view that international trade endangers the prosperity of national economies. The idea that international trade is a necessary evil, but does not increase the prosperity of a society, stems from phases of state delimitation. This is not the case: trade is carried out by individuals and, fundamentally speaking, increases prosperity. The motives of buyers and sellers do not differ - regardless of whether they trade with one another within a country or across borders.

There have been repeated political currents that rely on the production of almost all goods domestically. In the US election campaign in 2016, there was heated debate about the effects of the US's open trade policy. The election winner Donald Trump promised the Americans that he would ensure that they would have to accept fewer disadvantages from cross-border trade in the future, and in this context criticized Germany's high export surpluses, among other things. This raises the question of competitiveness, which can be achieved in different ways.

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International division of labor and the theory of comparative cost advantages

The theory of comparative cost advantages is central to understanding international economic relations.

The underlying assumption is quite simple: in economies everyone benefits from division of labor and specialization. The idea is that the benefits are greater for everyone when people and companies concentrate in their economic activities on what they do best. It is assumed that everyone has a limited amount of time available and should use this time most effectively.

An example: We consider a lawyer and her clerk. Both have legal knowledge. The lawyer drafts legal pleadings, for which she needs an average of 60 minutes per pleading. It takes them another ten minutes to type a pleading.

It takes the clerk about 180 minutes to formulate a pleading and 20 minutes to type a pleading. The assistant needs three times as long to write a pleading as the lawyer, and only twice as long to type it in, so he is comparatively good at it.

In absolute terms, it would be most efficient if the lawyer took over both activities. She can do this in 70 minutes, while the assistant needs 200 minutes for both activities. However, the lawyer can increase her efficiency if she concentrates on what she can do best in comparison to her clerk and refrains from doing both work steps herself.

She agrees with the assistant on a division of labor, limits herself to legal activities and buys the services of the typist. Both benefit from the division of labor: the lawyer, since she has an even greater advantage when writing briefs than when typing; the assistant, in that he also does what he can do comparatively well.

The English economist David Ricardo (1772-1823) applied this · basic principle of division of labor · to trade between. Transferring economies. Economies should focus on what they do best because, Ricardo said, they both benefit from it.

Ricardo showed that the division of labor and specialization also has advantages for both economies if one of them can offer all products more cheaply than the other. Ricardo suggested that the more expensive producing country concentrate on the product where it has the lower cost disadvantages; because it has a "comparative advantage" there.

Ricardo's considerations represented a radical break with the foreign trade model of mercantilism, which was still represented in absolutist France until the middle of the 18th century: There it was considered worthwhile to import as little as possible and to generate large surpluses of gold and silver.

Unfold

Close

An important factor for international trade is the very different wage costs from country to country. This is accompanied by an obligation to be highly productive. Because companies only remain competitive if a high level of added value is generated in one hour of work. Decisive for the price competitiveness of a company are therefore not only the wages, but the so-called unit labor costs, which reflect how much is produced in one hour of work. With high productivity, companies can also pay relatively high wages without losing competitiveness. This competitiveness is increased if companies manage to achieve temporary monopoly profits primarily through innovations, i.e. if they offer highly specialized products for which price competitiveness plays a subordinate role: The products are bought from abroad because they are particularly good, not, because they are particularly cheap.

Labor costs in manufacturing in selected industrialized countries in 2015 (& copy Institut der deutschen Wirtschaft Cologne)
In an international comparison, Germany has high labor costs. In Europe there are still some countries ahead of Germany, but apart from the front runners Switzerland and Norway, the gap between Germany and the other high-wage countries Belgium, Denmark and Sweden is not that great. In the manufacturing industry in the countries of southern Europe, wages are much lower. In Greece the labor cost is 14.91 euros and in Portugal 11.15 euros. The accusation that Germany is gaining advantages in international competition through wage dumping does not stand up to close scrutiny. In the USA and Japan, too, wages are significantly lower than in Germany. However, employees in Germany have benefited less from the high productivity increases of the last 15 years than would have been possible: wages rose more slowly than productivity, and as a result unit labor costs fell (see below).

Taken in isolation, the absolute wage level says very little about the competitiveness of companies in the individual countries. Switzerland has extremely high wages, but the Swiss economy still manages to export a lot. In 2015, the value of Swiss goods and services exports was 50,400 US dollars per capita, while the comparable value for Germany of 19,500 US dollars was less than half. (Value of exports in current US dollars in relation to the number of inhabitants. World Bank data)

The decisive factor for a country's competitiveness is the wage level in relation to productivity. Unit labor costs express how much wages or salaries, including non-wage labor costs, have to be paid for a product or a service unit. The absolute wage level is therefore not decisive for the competitiveness of a company or an economy, but the ratio of wage level to productivity. This shows that unit labor costs in Germany have fallen since 1998, while they rose sharply in China, for example. Translated into the language of exchange rates, this means that Germany has devalued in real terms and China has appreciated in value, because the real exchange rate is measured by the price development of the immovable (remaining in the country) factor, and that is the labor factor.

1998 and 2015 (2010 = 100) (& copy OECD, Economic Outlook 99, Annex Tables, Table 52, on the Internet at http://www.oecd.org/economy/outlook
/economic-outlook-annex-tables.htm)
Despite some significant wage cuts in the wake of the nationwide economic crisis, unit labor costs in Greece are still higher than in 1998. The same applies to Italy. While unit labor costs have fallen moderately in Germany, Ireland and the USA, they have more than doubled in China between 1998 and today.

The sharp rise in wages in China could prove particularly useful for workers in the US in the coming years. Because if it is no longer so attractive to produce in China for the US market because of the higher wage costs, companies could be inclined to relocate production lines back to the USA (re-industrialization). The prerequisite for this, however, is a stable exchange rate. If, on the other hand, the dollar appreciates against the Chinese currency and a US dollar could be exchanged for relatively more renminbi, this would not have any effect.