How Useful Are Tariffs?

by Jonathan Wen

Introduction

In an increasingly globalized market, some governments are becoming much more concerned with three of the main consequences of expanding international trade. The first is that domestic companies are forced to grapple with not only domestic competitors, but also foreign competitors. Second is the growing dependence on foreign firms for important goods. Finally, the existence of trade deficits (higher imports than exports) which are often seen as “unfair”. In order to address these concerns, a growing number of countries are implementing tariffs on their imports, taxing certain classes of goods originating from specified countries.

Recent Events

President Donald Trump has long promised to decrease the U.S.’ international trade deficit (specifically the growing trade deficit with China). He began acting on this pledge in January 2018 when he placed tariffs on imported solar panels and washing machines. Trump continued to implement tariffs on billions of dollars worth of other imports throughout the rest of the year as well. Now, due to the failure of recent trade talks with China, Trump has begun the process of raising tariffs from 10% to 25% on $325 billion worth of Chinese goods. What does this mean for the U.S. and how will it impact the economy?

Domestic Industries

Due to the globalized nature of current markets, domestic industries are being forced to compete with foreign competitors more and more. Trump has asserted over and over again that his tariffs protect domestic businesses. However, this is untrue for two main reasons.

The first is how tariffs encourage the misallocation of capital. A good example is Trump’s steel tariffs. Because Trump implemented tariffs on imported steel, domestic businesses that need steel have to pay higher prices now. This is why Dorfman of Forbes concludes that “steel tariffs save steel-producing jobs [by protecting domestic steel production] but cost far more jobs in steel-using industries like the auto and construction industries [by increasing cost of resources].” In fact, Trade Partnership Worldwide found that approximately 18 jobs were lost for every job gained through these steel and aluminum tariffs.

The second is “revenge-tariffs” put on the U.S. by China. Because of Trump’s tariffs on China, President Xi Jinping of China began implementing tariffs back on the U.S, ranging from soybeans, to pork, and other agricultural products. These retaliatory tariffs decrease the incentive to buy U.S. products because they become more expensive, and have helped cause the sharpest decline in American farmer incomes since 2016, grow the farming industry’s debt to $427 billion, and increase the bankruptcy rate of American farmers.

National Security

Another concern raised by many with respect to globalization is the U.S.’ increased dependence on foreign goods. It has been argued that if the U.S. becomes too dependent on any given country’s goods, it will become a national security concern.

Last year, Trump put tariffs on steel and aluminum. These taxes were particularly bizarre as they were placed on every single country except for our two neighbors, Canada and Mexico (Trump later imposed tariffs on them too, then withdrew them). Trump reasoned that “a strong [domestic] steel and aluminum industry are vital to our national security.”

However, the Department of Defense disagrees. Defense Secretary Jim Mattis concludes the exact opposite, plainly stating that the military’s demand for steel and aluminum can be met with only 3% of domestic production. If the current supplies of steel and aluminum were cut off during a conflict, the military could easily meet its demand through domestic production or one of the U.S.’ nearby allies like Canada. For this reason, tariffs are an unnecessary measure for the purpose of protecting national security.

Trade Deficits

Despite tariffs being implemented on billions of dollars worth of imported goods, Trump was curiously not able to decrease international trade deficits. In fact, in 2018, the U.S.’ international merchandise trade deficit rose to the highest in U.S. history. Compounding the issue, the trade deficit with China has also reached an all-time high despite many of Trump’s recent tariffs being directed solely at imports from China. Why?

The international trade deficit has consistently risen in recent years because the U.S. is currently one of the sole economically prospering nations. As explained by Spross of The Week Magazine in 2018, the growth rates of many economic powerhouses are slowing, but the U.S. is still growing at a steady rate. Decreasing economic growth around the world decreases the international demand for U.S. exports.

However, America’s steady growth means that U.S. imports are increasing at the same time, breaking the balance and increasing the trade deficit. This economic contrast also affects currency values. Because the U.S. is doing better economically than other countries, the U.S. dollar is worth comparatively more than other currencies. This exacerbates the trade deficit as U.S. goods are more expensive for people from other countries, and the exports of foreign nations are cheaper for those in the U.S. The incentive for U.S. consumers to buy foreign imports is much higher than for people in foreign countries to buy U.S. exports . In the end, this means that tariffs don’t directly address the root cause of the trade deficit. However, there is another reason why the trade deficit should not be justification for tariffs.

Some people, such as Trump, view the trade deficit as a huge concern. However, the majority of economists believe that the U.S. should not try to balance the trade deficit. There are a few reasons for this.

One reason is because trade deficits are the result of a strong economy. This means that trade deficits are not a good economic indicator in the first place. In fact, Scissors of the American Enterprise Institute concludes that there is no clear correlation between the trade deficit and other economic indicators like employment.

The second reason is that the U.S. is the only country who can sustain a considerable trade deficit without many consequences. This is because the U.S. comprises such a disproportionately large part of the global economy, the dollar is widely traded as the de facto international currency, and American citizens are relatively wealthy. Because no other countries can sustain a large trade deficit, any attempt to decrease the trade deficit will likely slow global growth, with a negligible positive impact on the U.S. economy. Due to these two key reasons, it is clear that the U.S. should not take action to decrease the current trade deficit.

Conclusion

After everything is taken into consideration, it is clear that tariffs should not be used to address trade deficit concerns. When considering the likely consequences of Trump’s decision to raise tariffs on $325 billion worth of goods from 10% to 25%, it is unlikely that this action would have any positive consequences for the global economy or American citizens. However, widespread damage is likely. Some estimates conclude that up to 2 million American jobs could be lost due to these tariffs. However, at this point, we know one thing is clear: The American public is tired of the worsening trade war with both China and the rest of the world.

 

Jonathan Wen is a Policy Research Fellow at the American Freedom Institute