Grounded_and_partially_capsized_Cruise_ship_Costa_Concordia_and_the_Ocean_Crane_Barge_Meloria_-_12_Feb._2012

Trump’s Trade Wars: The End of American Supremacy?

Today Trump opened another battlefront in his trade wars, with duties slammed on Chinese goods worth $34 billion. Expect China to retaliate with counter tariffs on US imports. China’s commerce minister was quick to announce: “China promised to not fire the first shot, but to defend national core interests and the interests of the people, it has no choice but to strike back as necessary”. A few hours later, China filed a complaint with the World Trade Organization, its second one.

Conventional wisdom has it that nobody wins from a trade war. Is it wise to ignore it? Trump has no doubts, he is convinced his trade wars will Make America Great Again.

This reminds me of the Italian captain who sank his own boat out of bravado. Remember Captain Francesco Schettino who famously sank the Costa Concordia cruise ship off the Italian island of Giglio in January 2012? He did this serenading a pretty lady in the dead of night, showing off his ability to sail close to the rocks. The ship hit the shore, capsized and 32 passengers and crew died.

Think of that beautiful cruise ship as a metaphor for the international order that America built after World War II, ensuring peace and prosperity through, inter alia, global trade. Now, Trump, like Captain Schettino, is steering the world ship towards the rocks while serenading his base:

Extraordinary. Watch how Trump’s audience looks enraptured, captivated by his show. And the numbers Trump throws around are totally out of context. Consider what he says of Canada, referring in a tone of outrage to a 275% tariff barrier. As if US farmers don’t have access to Canada’s markets because of it.

Is that the case? The fact is that 275% tariff barrier (which is indeed outrageous) only concerns a very small section of the market, milk and milk products. On average, trade barriers with Canada, as with all other advanced countries, are very low, around 2% to 5%. Not really enough to drive imbalances in trade.

The Real Causes of US Trade Deficits

US trade deficits have other causes, and they are nothing new. They’ve been going on since the 1960s, arising mainly from:

  1. American consumers’ preferences for foreign goods, either because they are cheaper or because of a “cool” factor that makes them preferable to locally produced goods;
  2. Americans’ ability to access a somewhat “inflated” currency: since the Euro continues to falter, the American dollar is still the world’s preferred currency of reference, used by central bank for their reserves and by investors to move capital across borders.

As a result, Americans can go longer splurging on imported goods than other countries without having to worry how to balance trade. In short, American trade deficits are “natural”. The result of demand and offer in a free world-wide market, that’s what globalization is all about.

If you wonder exactly how America manages to stay afloat in spite of running regular trade deficits, it’s because trade is not just a matter of exchanging goods (current account) but also services and capital (financial account and capital account). Foreigners from countries enjoying a trade surplus with the US often invest in American real estate and industry and of course in US Treasury bonds.

The data speaks clearly: between 2014 and 2018, the dollar strengthened by 28 percent – meaning imports look cheaper to American consumers while exports become more expensive for foreigners. Result? The American trade deficit rose from $486 billion in 2013 to $566 billion in 2017. Incidentally, that’s less than the record deficit of $762 in 2006, and that’s good: Since the Great Recession (2008), American businesses and jobs have recovered.

So how did America cover its trade deficit in 2017? First, as a net exporter of services:

  • Intellectual property, as measured by royalties and license fees: $75 billion
  • Travel-related services and transport: $55 billion.
  • Computers and other business services: $53 billion
  • Financial and insurance services: $45 billion.

Second, with US Treasury bonds (and other financial assets) bought by foreigners. And China is the largest foreign holder of them. Trump would do well to remember that fact when he engages in a “trade war” with China.

Are “Beggar-my-neighbor” policies about to be repeated?

Trump should pay attention to the lessons from History. Someone should tell him about the Smoot-Hawley Tariff Act that Washington passed a year after the 1929 crash on Wall Street, raising tariffs on imports to the US to record levels. 900 import tariffs were raised an average of 40 to 48 percent. The idea was to support American farmers who had been ravaged by the Dust Bowl.

That idea didn’t work: Smoot-Hawley tariffs raised price on local food, hurting Americans who were already suffering from the Depression. Countries retaliated with raising tariffs, pushing global trade down by 65 percent.

Those retaliatory trade practices were quickly dubbed “beggar-my-neighbor” policies, because they caused pain on both sides of trade barriers, turning everyone into “beggars”. The Great Depression only ended a decade later – after World War II and military expenses gave a boost to the American economy.

Europe last week retaliated against Trump’s tariffs on steel and aluminium with its own tariffs on specific American goods, including whiskey. Fox News, Trump’s favorite news channel, was quick to howl:

Fox News is so determined to defend Trump’s trade wars, that, as the journalist tells the hapless whiskey producer in the video, American business needs to “take the good with the bad”: They got a trillion dollar tax cut, so they shouldn’t complain if their sales abroad are threatened.

It is true that American exports only account for some 13% of GDP – that’s much less than the biggest world traders, Germany and South Korea (about 40% of GDP) followed by France, Italy and the UK (30%) and the rest of the trading world, the EU, China and Japan (all around 15-20%).  Canada and Mexico are the most exposed to a trade war with the US, since some 70-80% of their exports go to the US. The rest of the world, not so much: the five largest traders do not send more than 20% of their exports to the US.

So, in the Trumpian view, if American exports collapse, it looks like only a small segment of the American economy will be affected, much smaller compared to other countries – and America can easily afford to let Canada and Mexico roll in the ditch.

This is, of course, a deeply flawed view. It does not take into account a whole series of indirect, knock-on effects. When 13 percent of the economy is affected, this reverberates through the whole economy. Because everything is linked, when prices go up because of trade barriers, it is the poor consumers who stand at the end of the line who will get hit the most.

And the sectors most exposed to international trade will get hit the most – and that includes the American auto industry. Consider what one iconic American company, General Motors, had to say about this.

GM is deeply worried about the looming trade war and its concerns are reflected in the comments it just sent to the Department of Commerce. GM is nothing like the small whiskey producer in the video, it reminds us how big it is:

“GM operates 47 manufacturing facilities and 25 service part facilities across the United States, employs approximately 110,000 people in the United States, buys tens of billions of dollars worth of parts from U.S. suppliers every year, and, since 2009, has invested over $22 billion in U.S. manufacturing operations.”

It’s not just a manufacturing giant, it also plays a key role in American R&D. Most of the profits GM makes abroad return to the US “to support jobs, investments in our plants, and advanced R&D.” As it points out:

“The auto industry also happens to be in the midst of a fast-paced transportation revolution led by cutting-edge technologies that promise to redefine the industry as we know it. If U.S. auto companies are to lead in this space—as we currently are—we absolutely must rely on our existing strengths and invest resources accordingly. As with most of our other R&D work, GM’s investments in jobs and facilities to support these new technologies are predominantly here in the United States.”

GM is concerned that “overly broad and steep import tariffs [would] undermine [their] ability to competeand lead to “a reduced presence at home and abroad for this iconic American company, and risk less—not more—U.S. jobs.” The risk is always the same, retaliation:

“The penalties we could incur from tariffs and increased costs will be detrimental to the future industrial strength and readiness of manufacturing operations in the United States, and could lead to negative consequences for our company and U.S. economic security.”

The effect of tariffs is explained in crystal clear terms:

“At some point, this tariff impact will be felt by customers. Based on historical experience, if cost is passed on to the consumer via higher vehicle prices, demand for new vehicles could be impacted. Moreover, it is likely that some of the vehicles that will be hardest hit by tariff-driven price increases—in the thousands of dollars—are often purchased by customers who can least afford to absorb a higher vehicle price point.”

GM admits the possibility that it could choose not to increase prices and bear the burden. But “this could still lead to less investment, fewer jobs, and lower wages for our employees. The carry-on effect of less investment and a smaller workforce could delay breakthrough technologies and threaten U.S. leadership in the next generation of automotive technology.”

In short, GM’s position is for improving trade regulations, not playing at trade wars:  

“U.S. auto companies need U.S. trade deals that recognize the strength that comes from global operations and a global supply chain. GM suggests prioritizing work with our adjacent trading partners to strengthen U.S. manufacturing and advance implementation of modernized NAFTA and KORUS agreements.”

Put simply, a full-out trade war would have the effect of raising prices in a hurtful way not only for the poorer customers but for the middle class: for example, it is estimated that SUVs will cost an estimated $8000 more per vehicle.

Speaking of SUVs, UPDATE (11 July 2018): On the same day Trump is adding another turn of the screw – $200 billion more of Chinese goods to be slapped with tariffs – BMW has decided to pull one of its SUV-building factories out of the United States. It is adding SUV production in China and has signed an agreement with its Chinese partner, Brilliance Automotive Group Holdings, to increase the number of vehicles produced in China, up to 520,000 by 2019. It also announced it would increase prices for U.S.-produced SUVs sold in China because it is “not in a position to completely absorb the tariff increases” after China slapped a 40 percent tariff on U.S. car imports.

Yes, “beggar-my-neighbor” policies have just started. Watch the downward spiral as consumers’ incomes get sucked in and jobs are lost. But the point is this: America will be the one that ultimately bears the cost of Trump’s trade wars as the rest of the world goes on trading outside the United States.

Psychological Fallout from Trump’s Trade Wars

Looking beyond economics, trade wars can have unwanted consequences on a psychological level. The risk Trump has taken in launching a trade war literally against the whole world, from Canada and Mexico to Europe, China and Japan, is that people get angry hearing “America First” and they simply stop buying American products.

This is already happening in Canada:

How extensive can such a psychological effect actually be?

As mentioned in the video, Canada can substitute at first, but then, overtime, it might be more difficult, alternative products may be scarce, hard to find or expensive.

Also there is another disturbing psychological fallout from Trump’s strategy: Having launched all-out trade wars against not one country (say China) but the whole world, he has made it very likely that countries will band together against the United States. Something along the lines: Since your enemy is my enemy too, let’s be friends. With America becoming the world’s Number One Enemy, he has opened up the doors for collaboration between trading areas that would not have naturally collaborated, in particular Europe and China.

But all is not yet lost. And in fact, so far, financial markets have remained relatively stable, suggesting investors don’t really believe Trump will carry his trade wars down to the bitter end. But markets are not looking good everywhere, for example metal markets have nosedived over the past weeks, with copper prices (considered a barometer for the global economy) registering the largest drop since 2015, clearly hurt by Trump’s trade wars.

Yet market economies are extraordinarily flexible, new sources of goods can always be found, much of the global trade takes place outside the US. Businessmen are inventive, they see new opportunities, they have contacts and look for new sources of supply.

In the medium turn, it is possible that countries like Canada will learn their lesson and stop relying so much on the United States. Canada has already signed a trade treaty (CETA) with the EU in 2014. While still provisional, chances are better now that CETA will become operational soon.

As more counties turn away from the US to new sources, the trade game will take place with the US playing a smaller role than before.

In any case, a trade war is always a bad idea. Adam Posen, director of the Peterson Institute, tweeted:

The end of American supremacy? Not right away, but overtime it could happen. 


EDITOR’S NOTE: THE OPINIONS EXPRESSED HERE BY IMPAKTER.COM COLUMNISTS ARE THEIR OWN, NOT THOSE OF IMPAKTER.COM.

Featured Image: The Costa Concordia cruise ship, grounded and partially capsized. Source: Wikimedia commons.

 

 

 

Related Post

Cooking up Solutions for Better Lives Scaling access to clean, safe cooking solutions in developing countries is one of the greatest and most urgent public health challenges of our time. N...
Trump’s Hold on International Trade and Fina... The midterms handed the House to the Democrats but not the Senate, despite receiving some 12 million votes more than Republicans in Senate races. As a...
China and South America: The Pacific Alliance Since 2011, the South American neighbourhood has concocted a novel regionalist scheme, the Pacific Alliance (PA). Oriented towards motivating deeper t...
Competition Celebrates Diverse Business Responses ... Editor's Note: This article is the third in a four-part series highlighting private sector leadership supporting the achievement of the UN’s Sustainab...


There are 2 comments

Add yours
  1. Trump at War with Europe - Impakter

    […] Worth noting: This tweet is deeply misguiding – it may make Trump’s fans happy but it’s not factual. The US trade deficit with the EU is around $100 billion, not $151. And Trump is only talking about half the reality of trade deficits. He only mentions trade in goods, forgetting that trade also includes services. There the US has always run a surplus averaging over $200 billion a year. Finally, trade is never a zero sum game, it always includes financial flows that even it out. For more about this, see last week’s article on Trump’s trade wars. […]


Comments are closed.

Get impact into your inbox - The very best only!
I confirm that would like to subscribe to Impakter Weekly Newsletter
NEVER DISPLAY THIS AGAIN