This is generally believed to come at the cost of lower standards of living than an open economy would bring at the same time, but offers the advantages to the government in question of having greater autonomy and control. China, Japan and Singapore are described as neo-mercantilist. It is called "neo-" because of the change in emphasis from classical mercantilism on military development, to economic development, and its acceptance of a greater level of market determination of prices internally than was true of classical mercantilism.
Its policy recommendations sometimes echo the mercantilism of the early modern period. These are generally protectionist measures in the form of high tariffs and other import restrictions to protect domestic industries combined with government intervention to promote industrial growth, especially manufacturing. At its simplest level, it proposes that economic independence and self-sufficiency are legitimate objectives for a nation to pursue, and systems of protection are justified to allow the nation to develop its industrial and commercial infrastructure to the point where it can compete on equal terms in international trade. In macro-economic terms, it emphasizes a fixed currency and autonomy over monetary policy over capital mobility.
This use of protectionism is criticized on grounds that go back to Adam Smith's The Wealth of Nations, which was aimed directly at classical mercantilist policies, and whose arguments are applied to neo-mercantilism. Namely that protectionism is effective as a means of fostering economic independence and national stability; and questioning the conclusion that it allows for sustainable development of the nation's industrial base in the most efficient manner. Instead market economics has for over two centuries argued that increasing competition within the nation which will more effectively promote capital development and efficient allocation of resources. "Free traders" argue that by closing an economy, resources will be spent duplicating products that could more effectively be bought from abroad, and that there will be less development of exports which offer a comparative advantage. Market economists also argue that protection denies a nation's own consumers the opportunity to buy at cheaper market prices when quotas or tariffs are imposed on imports.
The subsidy of goods has also been advocated under neomercantilism. The fair trade movement claims that the protection of stability in emerging economies by guaranteeing a minimum purchase of goods at prices above those available in the current world markets, can contribute to restoring economic and social balance as well as promote social justice. Proponents of the fair trade movement argue that this may help to avoid the instability generated by the influence of global corporations on developed and developing nations.
Neomercantalists claim that "Free Trade" results in a negative philosophy that a nation that is not competitive deserves to decline and perish, just like an under-performing corporation should. They argue that "free trade" does not work well whenever dumping is practised or the international rules do not take into account the differences between wages, costs environmental regulations, and benets from nation to nation. For instance, there is a major difference in the cost of labour between a "First World" and "Third World" country for two equally skilled (or unskilled) sets of workers. When this economic reality is exploited by "First World" manufacturers, the benefits accrue to "First World" shareholders and consumers at the expense of "First World" workers and their status in the "Middle Class".
An unquestioningly open policy in such circumstances may effectively devalue "first world" human capital investments in favor of financial capital investments. Consider for example, a person deciding whether to invest in training as an engineer or in a portfolio of financial assets. Offshoring dramatically increases the effective supply of engineers, and as a result, their price will tend to decline (or grow at a slower rate). This decline will be increased by the lower cost of living in non-first world countries that would allow an engineer there to live much better on a lower nominal salary than their first world counterpart. (see purchasing power parity).
Faced with such prospects, rational economic agents will tend to avoid investing in human capital in areas that are vulnerable to such government-induced devaluation. Instead, they will shift training toward areas that are protected by regulation (for example : careers in law, medicine, government) or social tradition (tenured academia), or socio-cultural factors (sales) or local physical requirements (nursing, medicine, construction). (Not surprisingly, many unwavering proponents of unrestricted market access work in highly protected professions that are largely immune to the effects of offshoring). Alternatively, rational economic agents in "first world" economies may choose to invest in financial assets instead of human capital — further eroding the long term ability of the "first world" country to produce and grow.
Additionally, since cost of goods sold tends to be a larger component of total revenue than profits for most industries, production within a country may keep a larger portion of the total wealth within the local economy in comparison to dividends of profits and reduced prices on consumer goods. Furthermore, infrastructure investments may be reduced when production is shifted offshore. Over the longer term, such reduced local investments may reduce longer term productivity and economic growth. Neomercantilist economies on the other hand are often characterized by higher long term growth rates (that tend to flatten when neomercantilist policies are halted).
The language of neomercantilist policies repeats the claims of earlier centuries that protective measures benefit the nation as a whole and that governmental intervention secures the "wealth of the nation" for future generations. In doing so, neomercantilist admit that the interests of large corporations might as often be represented and protected as pushed aside for the national interest.
As a neomercantilist nation's industrial production capacity and improving research and development grow as a threat to the hegemon's (who usually unilaterally practices free-trade as Britain in the 19th century and the USA in the late 20th century) domestic markets, so protectionism is the usual response, initially through political and, when necessary, military means (see World War I).
After 1900, Britain was unable to remain an effective hegemon, having followed its "free trade" philosophy since the 1840s, but the United States was still pursuing policies of its American School rooted in Hamilton's three reports, that it had embraced in the 1860s under Abraham Lincoln. Germany followed Otto von Bismarck’s policies based on Friedrich List’s "National System," and American economic practices — allowing both powers to continue their dominance in world economics and power. Germany chose to use its strength to pursue a 'balance of power' with the British Empire leading indirectly to World War I, whereas the United States refrained from European power struggles through its foreign policy of 'isolationism' or non-interventionism in foreign conflicts.
In Two Hegemonies, Pigman describes a hegemon's principal function as, "...underwriting a liberal international trading system that is beneficial to the hegemon but, paradoxically, even more beneficial to its potential rivals." As it grows in significance, the hegemon expands its sphere of influence to include interests that have to be promoted through liberal economic policies. During this period, the hegemon will benefit directly from the increased international trade. But other economies also prosper. They are not burdened with high defence spending and the costs associated with overseas development. The "hegemon's dilemma" is whether to revert to neomercantilist policies if its hegemony is threatened, or to continue free trade and risk a relative decline. History suggests that all the global powers experience a period of growth under mercantilistic policy followed by a period where they are benign and focused on promoting international peace and liberal trade which is followed by a period of contraction when they become progressively more unstable.
The prisoner's dilemma is not a zero-sum game. Everyone would be better off if all players cooperated than if they defected. (Mutual cooperation is a Pareto improvement over mutual defection). Unfortunately, each player has an incentive to defect against their opponent. By defecting a player can defend themselves against an opponent's defection, and can exploit a cooperating opponent. In single-shot prisoner's dilemma, the economically dominant action is to defect.
However, trade policy is formed over time — and is better modelled by iterated /repeated prisoner's dilemma. Key early work in this area includes research by David Kreps, and by Robert Axelrod. One of the most important developments in game theory is the development of the folk theorem when applied to iterated prisoner's dilemma games.