Mercantilism and Its Modern Significance

Is Mercantilism Back in Vogue?

Shipping containers on a container ship at sea
•••

Gonzalo Azumendi / Getty Images

Mercantilism is an economic theory that advocates government regulation of international trade to generate wealth and strengthen national power. Merchants and the government work together to reduce the trade deficit and create a surplus. Mercantilism—a form of economic nationalism—funds corporate, military, and national growth. It advocates trade policies that protect domestic industries. 

In mercantilism, the government strengthens the private owners of the factors of production. These four factors of production are:

  1. Entrepreneurship
  2. Capital goods
  3. Natural resources
  4. Labor

Mercantilism establishes monopolies, grants tax-free status, and grants pensions to favored industries. It imposes tariffs on imports. It also prohibits the emigration of skilled labor, capital, and tools. It doesn't allow anything that could help foreign companies.

In return, businesses funnel the riches from foreign expansion back to their governments. Its taxes pay for increase national growth and political power.

History

Mercantilism was the dominant theory in Europe between 1500 and 1800. Countries all wanted to export more than they imported. In return, they received gold. It powered the evolution of nation-states out of the ashes of feudalism. Holland, France, Spain, and England competed on the economic and military fronts. These countries created skilled labor forces and armed forces.

Before that, people focused on their local town, kingdom, or even religion. Each municipality levied its tariff on any goods that passed through its borders. The nation-state began in 1658 with the Treaty of Westphalia. It ended the 30 Years War between the Holy Roman Empire and various German groups.

The advent of industrialization and capitalism set the stage for mercantilism. This phase strengthened the need for a self-governing nation to protect business rights. So, merchants supported national governments to help them beat foreign competitors. An example was The British East India Company who defeated the princes of India with 260,000 mercenaries. It then plundered their riches as the British government protected the company's interests. Many members of Parliament owned stock in the company. As a result, its victories lined their pockets.

Mercantilism depended upon colonialism as the government would use military power to conquer foreign lands. Businesses would exploit natural and human resources. The profits fueled further expansion, benefiting both the merchants and the nation.

Mercantilism also worked hand-in-hand with the gold standard. Countries paid each other in gold for exports. The nations with the most gold were the richest. They could hire mercenaries and explorers to expand their empires. They also funded wars against other nations who wanted to exploit them. As a result, all countries wanted a trade surplus rather than a deficit.

Mercantilism relied upon shipping. Control of the world's waterways was vital to national interests. Countries developed strong merchant marines and imposed high port taxes on foreign ships. England required all imports from Europe to come in its own vessels, or in a vessel registered in the country where the goods originated.

The End of Mercantilism

Democracy and free trade destroyed mercantilism in the late 1700s. American and French revolutions formalized large nations ruled by democracy. They endorsed capitalism. 

Adam Smith argued against mercantilism with his 1776 publication of "The Wealth of Nations." He argued that foreign trade strengthens the economies of both countries. Each country specializes in what it produces best, giving it a comparative advantage. He also explained that a government that put business ahead of its people would not last. Smith's laissez-faire capitalism coincided with the rise of democracy in the United States and Europe.

In 1791, mercantilism was breaking down, but free trade hadn't yet developed. Most countries still regulated free trade to enhance domestic growth. U.S. Treasury Secretary Alexander Hamilton was a proponent of mercantilism. He advocated government subsidies to protect infant industries necessary to the national interest. The industries needed government support until they were strong enough to defend themselves. Hamilton also proposed tariffs to reduce competition in those areas.

Fascism and totalitarianism adopted mercantilism in the 1930s and 1940s. After the stock market crash of 1929, countries used protectionism to save jobs. They reacted to the Great Depression with tariffs. In the U.S., the 1930 Smoot-Hawley Act raised tariffs on more than 20,000 items. When other countries retaliated, global trade fell 66% by 1933, prolonging the depression. 

The Rise of Neomercantilism

World War II's devastation scared Allied nations into desiring global cooperation. They created the World Bank, the United Nations, and the World Trade Organization. They saw mercantilism as dangerous and globalization as its salvation.

But other nations didn't agree. The Soviet Union and China continued to promote a form of mercantilism. The main difference was that most of their businesses were state-owned. Over time, they sold many state-owned companies to private owners. This shift made those countries even more mercantilist.

Neomercantilism fits in well with their communist governments. They relied on a centrally planned command economy. It allowed them to regulate foreign trade. They also controlled their balance of payments and foreign reserves. Their leaders selected which industries to promote. They engaged in currency wars to give their exports lower pricing power. For example, China bought U.S. Treasurys to fuel its trade with the United States. As a result, China became one of the largest foreign owners of U.S. debt.

Significance Today

Mercantilism laid the foundation for today's nationalism and protectionism. Nations felt they lost power as a result of globalism and the interdependence of free trade.

The Great Recession aggravated a tendency toward mercantilism in capitalist countries. For example, in 2014, India elected Hindu nationalist Narendra Modi. In 2016, the United States chose populist Donald Trump for the presidency. Some considered Trump's policies a form of neo-mercantilism.

For example, Trump advocated expansionary fiscal policies, such as tax cuts, to help businesses. He argued for bilateral trade agreements that are between the two countries, rather than multilateral agreements between many countries. These are all signs of economic nationalism and mercantilism.

Mercantilism opposes immigration because it takes jobs away from domestic workers. Trump's immigration policies followed this mindset.

In 2018, Trump's mercantilist mindset contributed to his launch of a trade war against China. Trump imposed tariffs on Chinese imports, and China responded with its own policies that hurt U.S. exports. Despite announcing a "Phase 1" deal to end the trade war in 2020, President Trump left office without ending the trade war. In fact, with roughly a week left as president, the Trump administration imposed a new round of trade restrictions covering tomato and cotton products from China, citing concerns over slave labor in China.