Bad Samaritans: The Myth of Free Trade and the Secret History of Capitalism

continue to make the right decisions. According to free-market economics, it is precisely because we are like Crusoe that free markets work. We know exactly what we want and how best to achieve it. Consequently, leaving people to do what they desire and know to be good for themselves is the best way to run the economy. Government just gets in the way.

The kind of economics that underpins Defoe’s Plan is exactly the opposite of Robinson Crusoe economics. In A Plan, Defoe clearly shows that it was not the free market but government protection and subsidies that developed British woollen manufacturing.Defying signals from the market that his country was an efficient raw wool producer and should remain so, Henry VII introduced policies that deliberately distorted such unwelcome notions. By doing so, he started the process that eventually transformed Britain into a leading manufacturing nation. Economic development requires people like Henry VII, who build a new future, rather than people like Robinson Crusoe, who live for today. Thus, in addition to his double life as a spy, Defoe also led a double life as an economist – without realizing it, he created the central character in free market economics in his fictional work, yet his own economic analysis clearly illustrated the limits of free market and free trade.

Britain takes on the world

Defoe started his double life as a spy for the Tory government, but later, as I mentioned, he spied for the Whig government of Robert Walpole. Walpole is commonly known as the first British prime minister, although he was never called that by his contemporaries.[10]

Walpole was notorious for his venality – he is said to have ‘reduced corruption to a regular system’. He deftly juggled the disbursement of aristocratic titles, government offices and perks in order to maintain his power base, which enabled him to remain the prime minister for a staggering 21 years (1721–42). His political skills were immortalized by Jonathan Swift in his novel, Gulliver’s Travels, in the character of Flimnap. Flimnap is the prime minister of the empire of Lilliput and champion of Dance of the Rope, the frivolous method by which the holders of high offices in Lilliput are selected.[11]

Yet Walpole was a highly competent economic manager. During his time as chancellor of the exchequer, he enhanced the creditworthiness of his government by creating a ‘sinking fund’ dedicated to repaying the debts. He became prime minister in 1721 because he was considered the only person who had the ability to manage the financial mess left behind by the infamous South Sea Bubble.*

Upon becoming prime minister, Walpole launched a policy reform that dramatically shifted the focus of British industrial and trade policies.Prior to Walpole, the British government’s policies were, in general, aimed at capturing trade through colonization and the Navigation Act (which required that all trade with Britain should be conducted in British ships) and at generating government revenue. The promotion of woollen manufacturing was the most important exception, but even that was partly motivated by the desire to generate more government revenue. In contrast, the policies introduced by Walpole after 1721 were deliberately aimed at promoting manufacturing industries. Introducing the new law, Walpole stated, through the King’s address to Parliament: ‘it is evident that nothing so much contributes to promote the public well-being as the exportation of manufactured goods and the importation of foreign raw matrial’.[12]

Walpole’s 1721 legislation essentially aimed to protect British manufacturing industries from foreign competition, subsidize them and encourage them to export.[13] Tariffs on imported foreign manufactured goods were significantly raised, while tariffs on raw materials used for manufacture were lowered, or even dropped altogether. Manufacturing exports were encouraged by a series of measures, including export subsidies.[14] Finally, regulation was introduced to control the quality of manufactured products, especially textile products, so that unscrupulous manufacturers could not damage the reputation of British products in foreign markets.[15]

These policies are strikingly similar to those used with such success by the ‘miracle’ economies of East Asia, such as Japan, Korea and Taiwan, after the Second World War. Policies that many believe, as I myself used to, to have been invented by Japanese policy-makers in the 1950s – such as ‘duty drawbacks on inputs for exported manufactured products* and the imposition of export product quality standards by the government† – were actually early British inventions.[16]

Walpole’s protectionist policies remained in place for the next century, helping British manufacturing industries catch up with and then finally forge ahead of their counterparts on the Continent. Britain remained a highly protectionist country until the mid-19th century. In 1820, Britain’s average tariff rate on manufacturing imports was 45–55%, compared to 6–8% in the Low Countries, 8–12% in Germany and Switzerland and around 20% in France.[17]

Tariffs were, however, not the only weapon in the arsenal of British trade policy. When it came to its colonies, Britain was quite happy to impose an outright ban on advanced manufacturing activities that it did not want developed. Walpole banned the construction of new rolling and slitting steel mills in America, forcing the Americans to specialize in low value-added pig and bar iron, rather than high value-added steel products.

Britain also banned exports from its colonies that competed with its own products, home and abroad. It banned cotton textile imports from India (‘calicoes’), which were then superior to the British ones. In 1699 it banned the export of woollen cloth from its colonies to other countries (the Wool Act), destroying the Irish woollen industry and stifling the emergence of woollen manufacture in America.

Finally, policies were deployed to encourage primary commodity production in the colonies.Walpole provided export subsidies to (on the American side) and abolished import taxes on (on the British side) raw materials produced in the American colonies such as hemp, wood and timber.He wanted to make absolutely sure that the colonists stuck to producing primary commodities and never emerged as competitors to British manufacturers. Thus they were compelled to leave the most profitable ‘high-tech’ industries in the hands of Britain – which ensured that Britain would enjoy the benefits of being on the cutting edge of world development.[18]

The double life of the British economy

The world’s first famous free-market economist, Adam Smith, vehemently attacked what he called the ‘mercantile system’ whose chief architect was Walpole. Adam Smith’s masterpiece, The Wealth of Nations, was published in 1776, at the height of the British mercantile system. He argued that the restrictions on competition that the system was producing through protection, subsidies and granting of monopoly rights were bad for the British economy.*

Adam Smith understood that Walpole’s policies were becoming obsolete. Without them, many British industries would have been wiped out before they had had the chance to catch up with their superior rivals abroad. But once British industries had become internationally competitive, protection became less necessary and even counter-productive. Protecting industries that do not need protection any more is likely to make them complacent and inefficient, as Smith observed. Therefore, adopting free trade was now increasingly in Britain’s interest. However, Smith was somewhat ahead of his time. Another generation would pass before his views became truly influential, and it was not until 84 years after The Wealth of Nations was published that Britain became a genuine free trading nation.

By the end of the Napeolenic Wars in 1815, four decades after the publication of The Wealth of Nations, British manufacturers were firmly established as the most efficient in the world, except in a few limited areas where countries like Belgium and Switzerland possessed technological leads. British manufacturers correctly perceived that free trade was now in their interest and started campaigning for it (having said that, they naturally remained quite happy to restrict trade when it suited them, as the cotton manufacturers did when it came to the export of textile machinery that might help foreign competitors). In particular, the manufacturers agitated for the abolition of the Corn Laws that limited the country’s ability to import cheap grains. Cheaper food was important to them because it could lower wages and raise profits.

The anti-Corn Law campaign was crucially helped by the economist, politician and stock-market player, David Ricardo.Ricardo came up with the theory of comparative advantage that still forms the core of free trade theory. Before Ricardo, people thought foreign trade makes sense only when a country can make something more cheaply than its trading partner. Ricardo, in a brilliant inversion of this commonsensical observation, argued that trade between two countries makes sense even when one country can produce everything more cheaply than another. Although this country is more efficient in producing everything than the other, it can still gain by