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The Boomerang Effect of Trump’s Tariff on China

Feb 28 , 2018

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If the events of the past year are to serve as any guide for Sino-American trade relations, they suggest that it will get more contentious before they become more pacific. Since normalization of U.S.-China relations and Beijing’s “opening-up” policy in 1980, bilateral trade has helped hundreds of millions in both countries, lifting Chinese out of abject poverty while providing Americans with much cheaper and affordable manufactured goods from China.

Despite the tensions between the two nations in both economic and geopolitical arenas, Washington and Beijing have generally recognized the mutual benefits of trade. This form of “controlled tension” has in the past been able to navigate the contours of various trade disputes. 

All that changed in 2016 when then presidential candidate Donald Trump declared that America could “no longer allow China to rape our country” and that it was the “greatest theft in the history of the world.” After becoming President Trump in January 2017, he kept his campaign pledge and, on his first day in office, withdrew American participation in the Trans-Pacific Partnership, a trade deal that created a free-trade zone with eleven other nations that constituted approximately 40 percent of the world’s economy.

Focusing on China

This was, in fact, only an opening salvo to a busy 2017 where China was either the direct or indirect target of trade actions. In April, the U.S. Department of Commerce self-initiated an inquiry under Section 232 of the 1962 Trade Expansion Act to determine if foreign steel imports compromise national security. In November, the Commerce Department self-initiated investigations on antidumping and countervailing duties of common alloy aluminum sheet from China.

In the same month, the U.S. filed a brief to the World Trade Organization (WTO) as a third party in support of the European Union arguing that China did not deserve the designation of a “market economy status.” According to the Washington Post, 2017 was “the busiest year for tariff cases since 2001,” among other disputes over Spanish olives, Vietnamese tool chests, and Canadian jetliners.

Not to lose the momentum of 2017, the Trump White House began 2018 by approving broad tariffs on imported solar cells and washing machines because they are believed to be the “cause of serious injury to domestic manufacturers.”

Apart from appealing to President Trump’s base, empirical studies show these types of retaliatory measures not only undermine the desired ends, but the means also result in many unintended consequences. 

Study the History

Consider the case of the 2002 Section 201 steel tariffs, when President George W. Bush imposed “30 percent tariffs on flat steel products, hot-rolled bars, and cold-finished bars, and tariffs up to 15 percent on other steel products.” The tariffs triggered, inter alia:

·   Price increases that resulted in the loss of 200,000 American jobs; worth nearly “$4 billion in lost wages from February to November 2002.”

·   In 2002, more American workers lost their jobs due to steel price increases than the total number employed by the steel industry itself (in December 2002, 187,500 Americans were employed by U.S. steel producers).

·   Every U.S. state was affected from these cost increases, from California (19,392 jobs lost) and Texas (15,826 jobs lost) to the Rust Belt where Ohio and Michigan lost 10,553 and 9,829 jobs respectively. Similarly, New York suffered 8,901 jobs lost, while Florida suffered 8,370 jobs lost. “Sixteen states lost at least 4,500 steel consuming jobs each over the course of 2002 from higher steel prices.”

Downstream steel consumers (think John Deere and Caterpillar) bore much of the burden from the price increases. Some customers opted to source their steel from offshore, while others simply refused to accept the higher prices from suppliers, forcing them to absorb the higher costs and consequently putting them in precarious financial positions.

Not surprisingly, the tariffs immediately led to recriminations from domestic steel consumers and foreign steel exporters that they were being forced to pay for “Bush’s gift to the steel industry,” according to the Peterson Institute for International Economics (PIIE), a think-tank in Washington, DC. The 2003 PIIE report further stated that the European Union and Japan put the U.S. on notice that “politically sensitive congressional districts such as textiles from Southeast states and citrus products from Florida” would be targets of retaliation ahead of the November 2002 mid-term elections.

Practically speaking, these threats forced the Bush administration into a “balancing act” of granting “just enough product exclusions to prevent foreign retaliation, but not so many as to exhaust the goodwill previously garnered with the steel industry, the [United Steel Workers of America] USWA, and congressional members of the Steel Caucus,” according to the PIIE report.

As expected, the WTO declared the tariffs illegal, and the European Union was authorized $2 billion in retaliatory sanctions against U.S. products. President Bush ultimately rescinded these tariffs 21 months later, much to the chagrin of the steel industry.

The authors of the PIIE report ultimately assessed that “although it is possible that the Section 201 remedy saved some jobs by preventing further layoffs, we continue to be baffled by the willingness of unionized workers to believe that protection is a great benefit to them.” And asked, “When will they realize that their union leaders wrongly vilify imports and make false promises about the payoff from protection?”

In September 2009, President Obama played the tariff card again when, in an effort to get China to “play by the rules,” levied up to a 35 percent tariff for Chinese tires. Under an International Trade Commission (ITC) Section 421 investigation triggered in April, ITC data analysis showed that “the domestic tire industry was materially injured by imports from China” and that these imports were causing a “market disruption” for domestic producers.

In their 2012 study, the PIIE calculated that, “even on very generous assumptions,” the decision to levy up to a 35 percent tariff helped to save a maximum of 1,200 jobs, but at a cost of $900,000 for each job saved. The primary beneficiaries of this tariff were the tire companies themselves. And only a “small fraction” of this $900,000 got into the pockets of tire workers. In addition, the additional costs to consumers on tires resulted in reduced spending on other retail goods, which indirectly lowered employment in the retail industry, likely costing the U.S. economy more than 2,500 jobs. To these losses, we can add the fact that China then retaliated by “imposing antidumping duties on U.S. exports of chicken parts,” which cost the industry approximately $1 billion in sales.

Triggering Chain-Reactions

What this shows is that any tariff levied by President Trump is likely to trigger an equal and opposite reaction from China. Douglas Irwin, Professor of Economics at Dartmouth College, has indicated that history has shown that whenever the U.S. has levied tariffs on Chinese imports under antidumping provisions allowed by the WTO, “Chinese regulators would suddenly find that U.S. poultry or pork was contaminated and had to be banned, its airlines would start buying from Airbus instead of Boeing, or its food companies would purchase Argentine soybeans and Australian wheat rather than the American equivalents.” To be clear, even if no one retaliated against the tariffs, the U.S. economy would still suffer from price increases.

William Zarit, the Chairman of the American Chamber of Commerce in China, has made it clear that “I have been told by certain officials that yes, definitely, there will be retaliation.”  Lest there be any ambiguity, the Global Times, the Chinese Communist Party mouthpiece, had already declared in 2016 that “Boeing orders will be replace by Airbus, . . . U.S. auto and iPhone sales in China will suffer a setback, and U.S. soybean and maize imports will be halted.” Not to put too fine a point on the meaning of these threats, Boeing received a $38 billion order in 2015 during Xi Jinping’s plant visit. China was number one among U.S. Agricultural export markets in 2016. Agricultural exports to China grew from $6.7 billion in 2006 to $21.4 billion in 2016.  Soybeans alone was valued at $14.2 billion.

In the end, protectionism in the form of tariffs today is ineffective for several reasons. In the current steel case, for one, the Economist indicates that a document produced in August by President Trump’s Council of Economic Advisors suggested that “the surge of steel imports in the first half of 2017 was consistent with changing domestic demand, not dumping by foreigners.” For another, many companies engaged in international trade are part of the larger mosaic that form the global supply chain today. Dartmouth Professor Irwin argues that nearly “half of all U.S. imports consist of intermediate goods, such as factory equipment, parts and components, and raw materials.” These intermediate goods are then used as part of the production process or sold as outputs to other companies around the world, who use them as inputs.

Indeed, this segues to the point that even when foreign companies are slapped with tariffs, they can simply move production to another country, or even the United States. Witness the Chinese company Qingdao Haier Company and its $5.6 billion purchase of General Electric’s home appliance business. If the Trump White House follows through with the president’s tariff on washing machines, the company would be well placed to increase production at its facilities in Louisville, Kentucky, thereby skirting the tariff. “Tariffs really don’t work” argues Barry Zekelman, chief executive of Illinois-based steel pipe manufacturer Zekelman Industries, “if you apply a tariff they can still move that good through another country.” Worth noting is the fact that some of these companies also employ Americans.

The Hamiltonian Advice

The polemics of tariffs is as old as the founding of the Republic. In his Aftermath of Hamilton’s Report on Manufactures, Professor Irwin explained that “Although [Alexander] Hamilton’s proposals for bounties (subsidies) failed to receive support, virtually every tariff recommendation was adopted by Congress in early 1792.” The tariffs avoided the appearance of protectionism because President George Washington’s Secretary of the Treasury Hamilton did not want to discourage imports, which were the critical tax base for funding the public debt. Irwin noted further that “although Hamilton’s moderate tariff policies found support among merchants and traders, the backbone of the Federalist Party, disappointed domestic manufacturers soon came to embrace the much more draconian trade policies of the Republican Party led by Thomas Jefferson and James Madison,” and “protectionist interests shifted their political support from the Federalists to the Jeffersonian Republicans during the 1790s.”

When contemplating tariffs in a world of growing nationalist sentiment, policymakers should resist the temptation of tariffs. Professor Irwin warns that when Congress passed the Smoot-Hawley Tariff Act in 1930, a League of Nations report suggested that the act could be “the signal for an outburst of tariff-making activity in other countries, partly at least by way of reprisals.”

President Trump’s tendency to act unilaterally reflects his desire to skirt the WTO altogether. According to the Bloomberg Editorial Board, the president had already “threatened to withdraw from it on the campaign trail and has made clear that he may not consider its rulings binding.” President Trump’s tariffs outside of the WTO framework will almost certainly result in retaliation. 

Given the gravity of its implications, it is not entirely clear that President Trump completely understands the consequences of acting on trade disputes unilaterally rather than moving them through the WTO. This is an existential threat to a system that the U.S. has tirelessly promoted since World War II. This global system “constrains the policies of the 163 other WTO members with which the United States trades.”

Former U.S. Trade Representative Michael Froman has warned that “it will just lead other countries to retaliate against us or, perhaps even worse, imitate us, and take action on their own without regard to international obligations,” and cause the entire world trade system to unravel and, in the process, do irreparable harm to the global economy and American credibility. The object lesson here might be summed up in a proverb attributed to Confucius: Before you embark on a journey of revenge, dig two graves.


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