Dani Rodrik has entered the blogosphere. In one of his first posts, he questions whether free trade leads to lower prices. At the risk of getting into issues that I don't know as much about as I wish I did, I'm going to offer a criticism of his views.
Rodrik acknowledges that free trade will mean lower import prices, noting that as a country liberalizes its trade, "the relative price of imports … comes down."
But, he says, the "relative price of its exports must go up." He explains this result through two examples:
Consider your typical Argentinian for example, who consumes a lot of wheat and beef. Since these are export products for Argentina, free trade implies a rise in the relative price of the Argentine consumption basket. (The gains from trade are still there, of course, but they derive from the usual allocative efficiency improvements, not from lower prices across the board.) And in the U.S., the Wal-Mart effect has to be qualified to take into account the fact that the relative price of the goods that the U.S. exports (including for example agricultural commodities) is higher than it would have been absent trade. Similarly, when the U.S. gets better market access abroad for its agricultural exports (a key demand under the Doha round), you can be sure that this will raise domestic prices for these goods, not lower them.
I take his point about exports to be the following. If export markets are opened up, the quantity of domestically produced goods sold in the domestic market falls, as they are exported instead. This decrease in supply will lead to a rise in price.
This conclusion makes sense in the short run. However, I'm skeptical that this price effect would last for long. First off, assuming the domestic market was competitive, there would be new domestic production to make up for the supply lost to exports. As prices go up, more producers should enter the market.
More importantly, though, given the assumption that trade has been liberalized, presumably foreign suppliers will now have the opportunity to sell in the domestic market. In other words, to take his examples, Argentinians will now be able to buy foreign beef and wheat, and Americans will be able to buy foreign agricultural products. This increased supply from abroad should bring prices back down.
A key point here is that there are two main reasons that free trade brings lower prices. One is the increased overall supply that results from specialization. The other is more competition in every market as foreign suppliers are allowed in. It seems to me that these factors should eventually overcome any short term price rise that results from producers shifting production from domestic sales to exports.
On the other hand, my economics is a bit rusty, so maybe I've overlooked something.
ADDED: Of course, another reason for lower import prices is trade with countries that have lower costs.
