Monthly Archives: December 2019

On Maritime Policy

Some time ago, I was listening to NPR and the hosts were discussing the Jones Act. For those who are unaware, the Jones Act requires that any shipping done from one U.S. port to another U.S. port must be carried by a U.S.-flagged ship with a U.S. crew that was built in the U.S. The hosts claimed that they could not find an economist who could explain why this sort of law existed. The policy seemed like a run-of-the-mill protectionist giveaway. My reaction was much different.

Here we have this law that is nearly 100 years old and no economist can explain why it exists? The only plausible explanation is that this 100-year-old law is a protectionist giveaway? This seems unlikely. One would have to believe that democracy is incredibly inefficient. This is especially true when one hears the estimates of the costs of the Jones Act. Why are voters in the U.S. just leaving billions of dollars on the sidewalk?

There is an entire literature on elections and accountability that seems to suggest that elections discipline the behavior of politicians to follow the will of the voters. However, as part of this literature, this can lead politicians to give greater weight to special interest groups. These groups tend to have more information than the average voter and provide more feedback to politicians. As a result, politicians might be too responsive to special interest groups in trying to achieve re-election. Of course, what seems like an obvious question (to me) is how special interests could convince politicians to support this legislation for so long without some other special interest group emerging to get the inefficient policy repealed. In fact, I have made the argument (along with my co-authors, Brian Albrecht and Alex Salter) that, in a world with endogenous entry of special interest groups, long-lasting policies must either have modest costs or actually efficient.

Given my prior beliefs on the endogenous entry of special interest groups, I figured that something like the Jones Act must either be substantially less costly than conventionally claimed. I decided to study this more closely and what I discovered is that there is a clear and consistent pattern of subsidizing the shipping industry throughout U.S. history. In addition, there is also an argument that such subsidies are actually efficient. So, I decided to write a paper about it. For those who don’t want to read the whole paper, what follows is a synopsis of my argument.

Consider the following basic idea. During times of peace, a navy needs less capacity than during times of war. At the same time, a navy needs to have the ability to expand rapidly when war occurs. Excess capacity during times of peace could be wasteful. A potential solution to this problem is for the navy to use private ships to assist them during times of war. Of course, there are several problems with doing so. First, diverting private ships for naval use might impair international trade. Second, foreign crews might not want to have any part in another country’s conflict. Third, if the government offers to pay ships for their services once conflict has begun or is imminent, it might be subject to a hold-up problem. Fourth, if the government simply expropriates the ships for naval use, the expectation of expropriation will cause the shipping industry to underinvest.

Given the need for a naval auxiliary, it would seem like some sort of Coaseian bargain is in order. One possibility is for the government to provide peacetime subsidies to the shipping industry in exchange for this industry’s services during times of war. This sort of thing is not without precedent.

What we have here is a possible argument for why the U.S. government offers maritime subsidies. But how would we know if this is actually the case? How do we know that I haven’t crafted a just-so argument to put a thumb in the nose of those who say there’s no justification for policies like the Jones Act? Well, I would suggest that we would observe multiple things. First, we should observe a clear and consistent pattern of maritime subsidies across U.S. history. Second, we should observe similar subsidies for other transportation services.

It turns out that both observations are true. As I detail in my paper, there is a clear and consistent pattern of subsidizing shipping and revising and updating these maritime subsidies in the run-up to military conflict or in the aftermath of conflict. Furthermore, the legislation for these subsidies, as well as speeches by FDR and Richard Nixon, explicitly outline the importance of these subsidies for the role of the merchant marine as a naval auxiliary.

There is also a history of doing this with other forms of transportation. In the decade prior to World War I, the U.S. became concerned about the number horses that would be available during times of war. Again, the U.S. could potentially purchase horses from private citizens in the event of war. However, military horses do not always have the same characteristics as the horses used on farms. Furthermore, mother nature determines the “time-to-build” for horses such that no reallocation of resources or productivity improvements allow military-ready horses to be produced any faster. As a result, the U.S. government set up remount depots and subsidized horse breeding.

Similarly, during both World War II and the Korean War, the U.S. government requisitioned private planes to provide airlift during the war. The role of aircrafts was later formalized with the creation of the Civil Reserve Air Fleet in 1952. This program allows the government to use participating member planes for airlift during times of war. In exchange, the government uses the participating airlines for airlift during times of peace and the amount of business and compensation provided is a function of the complementarity of the planes for military airlift.

In other words, what we see is a clear and consistent pattern of Coaseian bargains across time and different methods of transport as it relates to creating additional transportation capacity during times of war.

This finally brings me back to the Jones Act. As I detail in my paper, the Jones Act is part of a larger subsidization effort on the part of the U.S. government since its founding. In fact, the cabotage restrictions that are so notoriously criticized actually originated in 1817.

As I stated at the beginning of this post, much of the criticism of the Jones Act is based on its perceived astronomical costs. If one takes these costs as given, then when can understand why it is so hard to find an economist who can explain why it exists. However, what I have found is that these costs are dramatically overblown because they fail to consider the proper counterfactual. When estimating the costs of the Jones Act, most critics compare the cost of U.S.-flagged ships engaged in U.S.-based trade to the costs of foreign-flagged ships engaged in international trade. When you do so, what you find is that the cost of U.S. ships is almost 3 times as high as the foreign-flagged ships. This makes the Jones Act seem really expensive! Shouldn’t we just let the foreign-flagged ships do the work?

What this comparison ignores is that these foreign-flagged ships often fly so-called flags of convenience. These flags allow them to avoid the sort of taxes and regulations that they would face by flying the flag of a major developed country. Port-to-port U.S. shipping is considered domestic production. As a result, any ship engaged in U.S. port-to-port shipping would be subject to U.S. tax law, immigration law, labor law, and environmental laws. Perhaps most important among these compliance issues is immigration law. Under current U.S. law, foreign crews could not work on a ship conducting U.S. port-to-port shipping. This means that the labor costs of the crews on foreign-flagged ships would be substantially higher. In fact, back-of-the-envelope calculations suggest that once labor costs are taken into account, the cost of U.S. ships would only be 8% higher than foreign-flagged ships rather than nearly 3 times higher – and this is without taking into account taxes and other regulatory costs.

So, perhaps the reason that voters in the U.S. aren’t reaching down to grab billions of dollar bills on the sidewalk is that they recognize these dollars as a mirage.

None of this is to say that current maritime policy is optimal. In fact, I detail criticisms of current policy in my paper and offer suggestions for reform. Nonetheless, my paper illustrates that there is a compelling reason that countries offer maritime subsidies. This significantly changes the relevant counterfactual. So there is at least one economist who can now explain the existence of the Jones Act to the good people at NPR.