Free trade #1 – Assume everything is fungible

With free trade hitting the news in conjunction with the President’s recent visit to the Davos conference, I was looking again to see if either side could identify the best arguments for the other side of the debate. Advocates don’t like to give press to strong ideas from the other side, so too often the ideas get passed by. In this post and an upcoming one, I will cast my vote for those overlooked “best arguments.”

The upcoming Part Two will look at the anti-free-trade side, who brought down the Trans-Pacific Partnership (TPP) and who seek to take down the North American Free Trade Agreement (NAFTA). In short, the best populist argument against free trade is that the beneficiaries of open, multilateral trade are very real, but they are widely dispersed (as in the anonymous “all of us”) and “future.” However, the people and businesses most hurt by free trade in the short term have real names and faces right now. This is a difficult problem to overcome.

On the pro side, one “new world” reality keeps missing the headlines, and it is certainly not seen in this President’s trade policy. That is the proposition that you should assume all goods and services are fungible. And if they aren’t fungible now, much of them soon will be. And the remaining stuff after that is largely “side business” in international trade and politically-motivated. Complex trade policy should not be made just to protect “side business” and political deals.

When everything becomes fungible

If you are going to tattoo something on your arm, then tattoo the word fungible so you can easily pull it out and insert it into the conversation when international trade comes up.  Fungible goods and services are those that can be substituted or easily exchanged. The classic example would be a particular grade of refined petroleum, say, fuel oil. If we make a cross-border deal for fuel oil in exchange for U.S. dollars, and we also agree on the grade of the oil, then I, the purchaser, don’t really care where it comes from. You, the seller, can construct a side deal about exactly where the oil comes from, in order to minimize your manufacturing, shipping, taxes, or other border costs. As long as it shows up at my place of business, I really don’t care about the hoops you have to go through to get it there.

Classically, we have talked about fungibility in terms of oil or crops like corn, but increasingly we can throw most goods and services into that pot, including money itself. There are enough U.S. dollars floating around the world, in both currency [1] and computer bits on bank ledgers that most of the world’s dollar-based transactions actually never need to see the U.S. border, and in fact borders are increasingly irrelevant when it comes to money. The foreign exchange markets are now so efficient that, for major currencies, the method of payment becomes increasingly irrelevant as well. Exchange rates move incrementally, but foreign exchange futures and options can lock in the rates for any transaction now or in the future.

If I can’t tell the physical difference between a Subaru automobile made in the U.S. from the same model made in Japan, then effectively that car is also fungible. Indeed, most of us likely do not know where our own cars were finally assembled, let alone the component parts, and we likely no longer care. A business or consumer may look right now to one particular electronics manufacturer to get a leading-edge technology, but soon that technology will no longer be leading edge, and it will effectively become fungible. And thus, long-term trade policy based on a particular technology advantage is short-sighted.

Except for possibly detecting the language accent of the person who answers your customer service telephone call, you cannot tell any longer from where that call is being answered. These services have increasingly become fungible. Even higher-value services like legal research and accounting services have become borderless, effectively-fungible goods.

Are there limits to fungibility?

Ah, but there are brands, yes, that indicate we want specific versions of the good? Surely, you might say, they are not fungible. I would suggest that we really don’t know and don’t care where most of our brands come from anymore. Apple can switch suppliers on an iPhone to an equivalent component sourced somewhere cheaper, and we will never know. So while we may think we know we are getting something specifically sourced, the brand owners likely are working the trade system to their benefit.

Yes, but at some point goods need to be transported, and there is a cost to that, right? The business of transporting goods, which we now call “logistics,” was called “the carrying trade” when Adam Smith wrote his 1776 classic The Wealth of Nations, and he mentions it some 35 times. Smith characterized the carrying trade as a kind of natural “brake” on international commerce, protecting “home industries” with a price advantage, especially on common goods. But the rise of the container ship has made the transportation cost of a pair of athletic shoes, for instance, negligible.

But yes, there are certain goods and services that only U.S. companies can provide, However, as a percentage of worldwide trade, these increasingly become the “small stuff” overall, but with out-sized political clout. The trade in sophisticated military hardware, for instance, has little to do with normal trade policy, and more to do with State Department and Defense Department relationships.

Indeed, most “foreign aid,” contrary to popular understanding, is not in the form of cash delivered to foreign government or aid entities. Instead, it usually takes the form of American-sourced goods and services. “Foreign aid” is, in reality, mostly a corporate subsidy used to deliver international political favors.

The “lost implications”

So, what are the “lost implications” of “everything is fungible”? Mostly it means that there is really no such thing anymore as “bilateral trade.” The President still sees international trade as a negotiated “deal” between two trading partners. But these deals, in reality, are no longer effective. If there is any tariff or subsidy that makes the price of a good between, say, Country A and Country B different from the price of the same fungible good sold between Country A and Country C, then there will be an “arbitrage” opportunity that will arise between businesses trading between Country B and Country C. The goods will either flow between Countries B and C, or instead only financial credits need to change hands. Because the goods are fungible, the goods themselves may never need to cross prohibited borders.

Note that the recent 30% tariff placed on foreign solar panels is not an instance of a “trade deal.” It is rather a naked unilateral action of trade protectionism, one which will have unintended spillover effects, simply because “international trade is messy.” The idea that it is always a simple case of “American Manufacturer” versus “Foreign Manufacturer” is rarely borne out in reality.

The world trading system has become very complicated on both the side of the goods and services themselves, as well as in the flow of the money exchanged, which can easily move electronically in seconds through numerous complex and secretive business entities in order to skirt tax and border restrictions. Because the money is also fungible.

A former employer of mine once set up a small office in Switzerland consisting of just a few lawyers and information technology folks. Their job was to move hundreds of millions of dollars per year in money and technology assets from one country to another, all electronically, capitalizing on tax, copyright, and trade preferences. The idea is to skirt any country’s attempts at control over cross-border currency, goods, or services whenever the lawyers can certify the technical legality of the transaction. Every sizable international business has an operation like this, and it is usually very profitable,

In summary, international trade is 100-player chess, and it is no longer done via one-on-one “deals.” You need to work cooperatively among multiple nations in painstaking give-and-take. If you don’t play the 100-player game of complex multilateral trade, you are just a sucker at the table.


  1. About 75-80% of all the U.S. currency in circulation is in the form of $100 bills, and somewhere around 40-50% of U.S. currency is held outside the U.S. And by some estimates, physical currency makes up only about 10% of the total world money supply, the rest being accounting entries, existing only in digital form.

Part Two of this series is now posted. Click on the appropriate icon below to follow this blog on Twitter or Facebook.


3 thoughts on “Free trade #1 – Assume everything is fungible

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