Author: Dr Shane Oliver, Head of Investment Strategy and Chief Economist, published on 12 April 2018.
The key points are as follows:
- President Trump’s actions on trade are mainly aimed at achieving better access for US exports to China and better treatment of Us intellectual property by China. They are not primarily aimed at traditional US allies, reducing the risk of a global trade war.
- So far there is only a “phoney trade war” between the US and China as major tariffs are only “proposed”. Signs remain positive for a negotiated solution, but there is a long way to go yet.
What is a Trade War:
A trade war is a situation where countries raise barriers to trade with each other (such as tariffs or quotas on imports or subsidies to domestic industries) usually motivated by a desire to “protect’ domestic jobs and workers sometimes overlaid with “national security” motivations. To be a “trade war” the barriers needs to be significant in terms of their size and the proportion of imports covered. Tariffs on a few goods don’t really count as a trade war because it’s not significant.
The best known global trade war was that of 1930 where average 20% tariff hikes on most US imports under Smoot-Hawley legislation led to retaliation by other countries and contributed to a collapse in world trade.
What is wrong with Protectionism?
A basic concept in economics is a comparative advantage: that if Country A and B are both equally good at making Product X but Country B is best at making Product Y then they will be best off if A makes X and B make Y. Put simply free trade leads to higher living standards and lower prices whereas restrictions on trade lead to lower living standards and higher prices. This is why economics should be compulsory in final years at high school!
The trade war of the early 1930s is one factor – along with wrong-footed monetary and fiscal policy – that contributed to the severity of The Great Depression.
A few years ago, at a presentation in Adelaide, I tried to explain all this to a woman in the audience who was incensed by the recent closure of auto production in South Australia by Mitsubishi. After a while someone else in the audience asked for a show of hands as to who drives an Australian-made car – only about five hands went up including mine (the Holden!) but most people’s hands stayed down, including the lady’s and she said she liked the safety of a Volvo. Fair enough. But it seems that while some want to protect local industry they don’t buy it themselves. The experience of heavily protecting Australian industry in the post WW2 period was that it was just leading to higher costs and prices and lower quality products and Australians’ were voting with their wallets to buy better value foreign-made goods. We might have protected lots of manufacturing jobs if we stayed at the levels of protection of 45 years ago, but we would have become a museum piece as would the US.
Fortunately, despite the loss of jobs in manufacturing (from 25% of the workforce in 1960 to around 8% now) other jobs have come along in the services sector where Australia’s and America’s relatively highly-skilled but highly-paid workforce have a comparative advantage compared to workers in less developed countries.
In short, if you want to support your country’s products buy them, but trade barriers don’t work.
Why is President Trump raising tariffs then?
It’s simple. He is fulfilling a 2016 presidential campaign commitment to “protect” American workers from what he regards as unfair trading practices. He has long held this view – see his 1986 interview with Oprah where his focus was Japan. Last year his focus was on deregulation and tax reform, which helped share markets. This year the November mid-term elections are approaching & polling not helped by his poor popularity has been pointing to the Republicans losing control of the House, so he is back in campaign mode returning to his campaign commitments on trade, knowing tariffs are popular with his supporters.
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