This essay is part of on going series built on the simple proposition that there has never been a sound theory of economics (see The Unraveling of Economics). In short, the new model proposes the critical intellectual error lies in a 200 year old idea of the Quantity Theory of Money (i.e. the supply of money determines the price level). The implications of this error will be used to critique the popular notion of Fair Trade" as a panacea to our economic woes. The key conclusion we will draw here is that achieving any form of fair trade is an impossible task. As a result, protectionism built on sky high tariffs remains the only real solution to restoring our economy and the vanishing industrial base upon which our nation's prosperity and national security ultimately rests.
Modern free trade theory is essentially a stone-age model of barter with money as an after thought. Barter ultimately means supply and demand based prices and wages. Thus prices/wages are assumed to be infinitely and instantly flexible (Walras/general equilibrium). Keep in mind that labor content in such goods is irrelevant in a barter exchange. The modern assumption of barter and rapid price adjustment in turn leads to utopian balanced trade, requiring that international wages between countries converge (i.e. yours will drop to a farmer's of the third world). It is also admitted that many of us will lose our jobs, but winners will out number losers for a net gain in this feel-good world of theoretical economics. In stead of increasing industrial sector diversity found in a healthy economy, a nation becomes more and more specialized.
Since such a happy ending implies a fair and beneficial result, we will use the common notion of "leveling the playing field" in international exchange to expose this fallacy. Arguable the most level of fields is the European Union. In other words, here we have nations trading with a common currency and a very similar standard of living. By introducing the Euro among these nations the modern economist, believing in the notion of unlimited free markets and barter based models, is convinced only great net gains would result. But if my conclusion that money's definition is defective is correct, then Europe will suffer that same consequences that free trade has always wrought on its victims (unemployment for the inferior competitor, or a reduced standard of living from wealth exportation--e.g. subsistence wages of Britain in 1700s).
The argument is best explained by example. Simply assume, that the French metal industry makes a significant productivity gain over its competitors in Italy. This would normally result in unemployment in Italy. Notice the subtle problem that has a risen. The unemployed Italian worker due to a language barrier cannot easily move to the French competitor who may now be hiring as he takes a greater share of the market. Normally, this would not be an issue if say the Italian economy had been a closed economy. Italian industries competing against each other would only cause short-term unemployment among themselves due to healthy productivity gains and the necessary labor reduction per good. The cash savings generated among Italian consumers (due to cheaper goods resulting from productivity gains) would be spent on new Italian sectors, thus creating new long run employment opportunities for the newly unemployed. The resulting growth in sector diversity would be normal healthy growth. In contrast, the European Community dynamic of free trade in my view is a dysfunctional form of economics because it destroys worker mobility.
The modern Quantity Theory of Money (QTM) with its money as a veil assumption (i.e. barter) is not sufficient to address this problem. This confusion of barter-pricing dynamics (instead of domestic cost of labor) as the panacea to free trade instability can be traced all the way back to the father of tree trade theory David Ricardo and the father of QTM David Hume. Astonishingly Ricardo as the champion of a labor theory of value is forced to jettison his beloved the labor theory of value when confronted with international exchange. Hume only added to the intellectual confusion by believing gold-flows between countries would act as a stabilizing price mechanism. Unfortunately, what Hume did not grasp was that even gold is a domestic "arbitrary scale" as James Steuart" called it in the 1700s, before Adam Smith penned his defective analysis of free market dynamics. The scale is defined by the establishment of a national minimum wage, a concept which is anathema to modern theory which rejects any form of wage rigidity. But a scale without rigidity is no longer a scale; it is an economy that has lost its point of gravitation. For example, an ounce of gold in one nation might require 10 hours of labor to recover, while 100 hours in a different nations. Mixing the two together via free trade amounts a complete destruction of money's core function in my view. If there ever was a red flag in economic theory, this is it.
In strong contrast to Hume and Ricardo, Germany, courtesy of Fredrick List and Bismarck, in the 1800s learned the secret to surpassing Britain as an economic super power lay in protectionism. In a similar fashion, the creation of the US Constitution with the ability to apply tariffs to superior British imports was the same path taken to super power economics. Two hundred 200 years later, we find America's woe are the same as Europe's because both have rejected their economic heritage of protectionism. As a result, there is only one road to economic prosperity as all super powers have understood: protect your industries.