Kiwis brace for fallout from Trump’s trade war, but Americans already are paying the price

Jeffrey Frankel, Professor of Capital Formation and Growth at Harvard University, is one of several writers to have examined Donald Trump’s trade war with China in recent days and found American consumers are the major victims of the tariffs that are Trump’s major weapon.

In an article headed The Real Cost of Trump’s Tariffs Frankel writes: 

Whereas winners tend to outnumber losers when trade is liberalized, raising tariffs normally has the opposite result. US President Donald Trump appears to have engineered a spectacular example of this: his trade war with China has hurt almost every segment of the US economy, and created very few winners.

The relevance of Trump’s economic blundering for New Zealand is ominously contained in the OECD warning that a US trade war with China could put an anchor on the global economy (see article here).

The notion that one nation will win with no effect on GDP and that the other will lose was not a conclusion of the analysis.

The OECD’s management said:

“The global economy is expected to achieve moderate but fragile growth over the coming two years. Vulnerabilities stem from trade tensions, high policy uncertainty, risks in financial markets and a slowdown in China, all of which could further curb strong and sustainable medium-term growth worldwide.”

In a forecast released this month, the OECD said the global economy would grow this year at a rate of 3.2% and 3.4% next year.  While this was a downward revision from its forecast in March, some nations are not expected to be affected as much as others.

There was no revision in the 6.2% forecast for China or the 7.1% GDP improvement forecast for India. The US was revised up slightly to 2.8%.

Underpinning the forecast, the authors wrote:

“China remains key to global economic growth. Significant fiscal policy stimulus has buffered the economy as it rebalances from investment and export-led growth to a more domestic footing. A sharper slowdown than already seen in China would pose important risks to both global growth and trade prospects.”

The trade war could be the trigger for that slowdown.

This came into Finance Minister Grant Robertson’s considerations when he announced the government would likely change its net debt target from 20 percent of GDP, to a range between 15 and 25 percent, in a few years’ time.

“We’ve been given advice [from the Treasury] that it is better to have a range than a specific point. That allows you more flexibility to respond to particular economic conditions,” Mr Robertson said.

“I’m very satisfied with our 20 percent debt target, and believe that allows the balance that we want in the economy. This is simply the ability for a future government to have that range to be able to adjust to economic circumstances.”

He spoke of global economic headwinds – a tariff war between the United States and China, slow growth in high income countries, and uncertainty in Europe, largely due to Brexit.

“It’s about the balance. It’s about making sure we are making those investments, and I genuinely believe we are, with safeguarding ourselves from shocks that do come along from time to time, and to make sure future generations aren’t saddled with very heavy levels of debt.”

Americans are feeling the shock more immediately.

Frankel says US officials and some prominent economists defend the high US tariffs as a regrettable but temporary expedient, and a necessary means to a strategic end.  But:

On this view, the tariffs are a weapon that will enable Trump, the consummate dealmaker, to force concessions from China and America’s other trading partners.

Yet Trump looks and talks like someone who would be perfectly satisfied if the tariffs became permanent. He continues to insist that China is paying the cost of the tariffs, sending money to the US Treasury. Moreover, he seems unfazed by the possible long-term effects of a protracted trade war: a decoupling of the Chinese and American economies, and a loss of gains from trade, including a dismantling of the supply chains on which so much industry in both countries depends.

At the same time, the Trump administration is demanding that China make it easier for American companies to set up operations in the country – in particular, by ensuring that US firms aren’t required to hand over technologyor other intellectual property to local partners. But this seems inconsistent with Trump’s goal of increasing US net exports to China, which would presumably involve American firms producing at home rather than in China.4

The incoherence of Trump’s trade policies is even more worrying on closer inspection, says Frankel. If higher tariffs remain indefinitely – as now appears possible – the US and the global economy will be worse off.

He references two new studies by eminent economists using 2018 data which find that Chinese exporters have not lowered their prices. As a result, the full extent of the price increase has been passed through to US households.

According to one estimate, if Trump goes ahead with his threat to extend the 25% tariff to all imports from China, the cost for a typical US household will be $300-$800 per year; another puts the additional costs as high as $2,200 per year. Moreover, this does not count the cost to US firms, workers, and farmers from lost exports – the result of Chinese retaliation and other effects, including appreciation of the dollar against the renminbi.

An extended tariff war would also result in a loss of gains from US-China trade.

Frankel invokes British economist David Ricardo’s principle of comparative advantage. This states that trade between two countries can be mutually beneficial even when one country can produce everything more cheaply than the other.  US economist Paul Samuelson said this was both universally true and yet not obvious.

But a full grasp of the principle of comparative advantage is not needed to understand the basic idea of mutual gains from trade, Frankel argues.

If both the buyer and the seller voluntarily agree to the exchange, then they both gain. This assumes that they are each good judges of what they want – or at least better than the government is. This assumption is usually correct, with some exceptions (such as users’ opioid purchases).

To say that both countries gain overall from trade is not to claim that every citizen of each country benefits. Changes in trade or tariffs give rise to both winners and losers within each country. But whereas winners tend to outnumber losers when trade is liberalized, raising tariffs normally has the opposite result.

Trump appears to have engineered a spectacular example of this, says Frankel.  His trade war with China has hurt almost every segment of the US economy and created very few winners.

The losers include not only consumers, but also firms and the workers they employ, from farmers losing their export markets to manufacturers forced to pay higher input costs. Even the US auto industry, which did not ask for Trump’s “protection,” is worse off overall because it has to pay more for imported steel and auto parts.

As a result, Trump has come close to accomplishing something seemingly impossible: tariffs that benefit almost no one. Protectionism is usually explained as the result of special interests wielding disproportionate power. Trump’s tariffs against Chinese goods don’t fit this theory. And a theory that does explain them may not exist.

In an article at FT Alphaville, headed Who’s paying for the US-China trade war?, Colby Smith challenges President Trump’s claim it is China, not the US, who will pay for the ongoing trade war between the two countries.  As tensions flare-up, it has become increasingly clear that much of the burden is falling on American consumers, she says.

Of the $200bn worth of Chinese imports now subject to 25 per cent tariffs as of May 10, roughly 40 per cent of those products are consumer goods like furniture, electrical equipment and apparel, according to the USTR. Chinese officials have threatened another round of their own, which Cesar Rojas and Catherine Mann of Citi say will set in motion the US slapping tariffs on the remaining approximately $300bn of imports not yet subject to additional duties.

At Liberty Street Economics, a similar story is told in an item headed New China Tariffs Increase Costs to US Households

It references a recent study which found that the 2018 tariffs imposed an annual cost of $419 for the typical household. This cost comprises two components: the first, an added tax burden faced by consumers, and the second, a deadweight or efficiency loss.

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