Why Are Trade Wars So Damaging?

Popular Economics Weekly

Why cannot the Trump administration make $1 + $1 = $2? It’s obvious to all major economists and anyone with basic arithmetic skills that foreign tariffs not only raise the prices of those imports to US, which lowers the demand for those products, but also causes the affected countries to counter by raising their tariffs, which reduces the demand for American products sold to them. It may also reduce US employment in those sectors, though the jury is still out on how it affects US employment.

Suffice to say that attempting to change incredibly complex balance of trade policies between countries that depend on each other for parts as well as finished products takes real negotiating skills, rather than bullying tactics in one-on-one confrontations and unilateral withdrawals from existing trade agreements, which could very well slow growth enough to cause a mild recession—or worse.

In 2018, for instance, the country's trade gap widened to a 10-year high, with the goods gap with China jumping to a record high despite tariffs on USD 250 billion worth of Chinese imports in the first year of Trump’s attempts to reorder the perceived trade imbalance.

The effects of fighting with friends as well as foes is already evident in the Boeing 737-Max 8 fiasco, in which allies chose to ban its flights even before analyzing the Black Boxes. And the ballooning trade deficit after one year of these trade wars is other evidence that allies are as willing to retaliate with tariffs, as foes.

“In the first two volleys of U.S. tariffs on China, which covered $50 billion worth of imports, only $1 billion were products where China had a dominant market position, according to a calculation by Deutsche Bank AG,” said Bloomberg’s Peter Coy, “In the latest round, which took effect on Sept. 24, American consumers are more vulnerable to price increases: Almost half of the $200 billion worth of products subject to the 10 percent duties come mainly from China. Things will get even worse for consumers if Trump makes good on his threat to place tariffs on the rest of Chinese imports, because for about 80 percent of the products, China is the majority supplier.”

And Harley-Davidson is transferring manufacturing to the EU of motorcycles sold in Europe, because of EU retaliatory tariffs on its US-manufactured Harleys. And now GM is also announcing some 14,000 layoffs in five US plants because it can produce its cheaper cars, such as the Chevy, overseas.

Why? Ask GM CEO Mary Barra. Trump’s tariffs on steel and aluminum have cost Ford and GM about $1 billion each. GM Chief Executive Officer Mary Barra cited the tariffs in November when she announced the 14,000 job cuts that included the Lordstown plant’s shuttering. Potentially making things even worse, Trump is now weighing new tariffs on foreign automobiles that could threaten hundreds of thousands of additional U.S. jobs.

So the fact tariffs that target trading allies as well as adversaries has only increased the trade deficit is not a sign that such a policy is working, especially with China that Trump has chosen as the poster boy of unfairness.

Tradingeconomics.com

What is most shocking is the continuing decline of the US monthly trade balance (in above graph), though only partly due to the trade wars, since American consumers flush with case have widened the deficit by continuing to buy more imports than we export. But it could get worse if Trump continues to raise tariffs on China, in particular.

Labor think tank Economic Policy Institute (EPI) reports the U.S. goods trade deficit with China reached a new record of $419.2 billion in 2018, up from $375.6 billion in 2017, an increase of $43.6 billion (11.6 percent). United States trade with China is dominated by the deficit in manufactured products.

“Although the United States has imposed tariffs of 10 to 25 percent on $250 billion in imports from China (about half of total U.S. imports from that country),” says EPI, “China has played its ‘ace-in-the-hole’ by allowing it’s currency to fall by roughly 10 percent against the dollar. As a result, the U.S. trade deficit with China increased faster (11.6 percent) than the U.S. deficit with the world as a whole (10.4 percent).”

This is not bringing more jobs back to the US. In fact, studies are beginning to show a neutral to net loss of jobs from the tariffs, as sales lost through increased production costs from tariffs hasn’t yet been offset by promised jobs created from industries bringing jobs back to the US that haven’t yet materialized.

The IMF predicts that the U.S. current account deficit—the broadest measure of U.S. trade in goods, services, and income—will nearly double between 2016 and 2022. Unless these trends are offset by a rapid decline in the value of the U.S. dollar, rapidly rising trade deficits could be devastating for U.S. manufacturing, likely giving rise to massive job loss on the scale experienced in the 2000–2007 period, when 3.5 million U.S. manufacturing jobs were lost.

$1 + $1 doesn’t = $2 when there is no rhyme or reason for such tariffs without a well thought out plan to achieve results. Negotiating with confusion rather than clarity can only mean an uncertain trading future, which increases the certainty of a recession.

Harlan Green © 2019

Follow Harlan Green on Twitter: https://twitter.com/HarlanGreen