No, Mexico’s Not Going To Pay For The Wall. It Makes No Economic Sense.
I had written this a couple weeks ago for myself, but with John Oliver making the point on Last Week Tonight, I thought it’d be worthwhile to share a slightly deeper dive into trade deficits and tariffs.
They’re gonna build the wall, and they’re gonna make Mexico pay for it… how? Oh, the US has a trade deficit of $58B/year to Mexico. $58B every year. Would Mexico risk that over $10–12B (or more realistically, double that) for a wall to stop illegal immigrants?
Yeah, they would.
If you don’t understand why that is, maybe it would help to explain what a trade deficit means, how it works in practice, and why the US triggering a trade war with Mexico would be a horrible, horrible idea. This will involve some math, but it’s pretty straightforward math, and to keep it as simple as possible I’m going to use numbers that are a bit simpler for legibility. I know it’s not possible to buy a new car for $10,000, and that US-Mexico trade involves a lot more than just cars, but they’re the single biggest industry that conducts trade over that border.
What’s a trade deficit? How is it different from a budget deficit?
You could raise your own cows if you wanted a bowl of ice cream, but given that Ben & Jerry’s does a really good job of that already, you’re better off if you pay them $5 for a tub of Chunky Monkey. In this example, you’ve just incurred a trade deficit of $5 to Ben & Jerry’s. You sent money out, you got ice cream back.
A trade deficit is shorthand for “instead of making it, it’s cheaper to buy it.” America sends $58B/year to Mexico, but the other side of that equation is America gets $58B worth of stuff — stuff that would likely be more expensive if it was made in America. Ford can sell a car for $10,000 if they import it. They might have to sell that same car for $14,000 if they manufacture in America. Ultimately, this leaves people better off — a car and $4000 cash is objectively better than just the car you’d have if you spent $14,000.
Of course, if all you do is send money out without making any yourself, you’re going to have some trouble, but this balance is pretty easy to measure. If you take Gross Domestic Product, which is all the spending that takes place in America, and compare it with Gross National Product, which is all the money earned by Americans worldwide, you’ll see that GDP is bigger at the moment. It’s like the difference between your income (GNP) and your spending (GDP). When a company in India gives Facebook $1M for an ad buy, that’s American GNP, but it’s not tracked in America’s GDP until Facebook uses that revenue to pay its US employees. In other words, if GNP is growing, the country is better off.
If any country consistently runs a trade deficit (as the US does), that country’s RELATIVE wealth will decline, but if the pie is getting bigger, it’s possible to have a smaller piece relative to the whole and still end up with more pie. By any objective measure, America is a more prosperous country because of the benefits of free trade, though how that prosperity is distributed is an (extremely important) question for another time.
Why Tariffs Suck
Let’s say Trump gets elected, and he sticks to his promise to tell Mexico they’re either paying for the wall or getting hit with tariffs. How does that play out for everyone? Trump’s been quoted proposing a 45% tariff on imports from China, so for simplicity, let’s say it’s a 50% tariff on all goods imported to the US from Mexico. Never mind that this would likely require the US to tear up the North American Free Trade Agreement, let’s just look at the financial impacts.
A Ford dealer importing finished cars with an MSRP of $10,000 might pay $8,000 for each car — the $2,000 difference covering salaries, commissions, overhead, and so on. Under a 50% tariff, that dealer is now paying $12,000 for each car. Now, this doesn’t mean you’re going to pay $14,000 for that car — dealers will compete and get their margins as low as possible — but there’s simply no way you’re getting that car for $10,000 anymore.
When American companies spend $58B/year on imports from Mexico, that’s not $58B going to the Mexican government, it goes to Mexican companies. The government only gets a slice of those companies’ profits (not revenue) through corporate taxes, which are at a rate of 30% in Mexico. Now, looking at recent reports from the auto industry, operating margins are around 5%. We’re already simplifying by looking at just the car industry, so let’s be generous and say that the average margin is 10%. 10% profit, taxed at 30%, is $1.74B/year. However, unless all trade ceases, even under tariffs that profit won’t go to zero. Mexican companies will choose to export to other countries in NAFTA or the TPP that they don’t currently export to, because while transporting goods to the US may have been cheaper, tariffs would change those calculations. If we assume that tariffs and newly incurred transport costs wipe out half of Mexican exporters’ profits, we’re looking at a negative impact on Mexico’s federal budget of $870M/year. It might sound big, but the Mexican government spends more than 300 times that every single year.
Donald Trump is threatening the Mexican government with a measure that (again, based on pretty generous estimates in Trump’s favour) would have an impact of less than 1/3 of 1% of Mexico’s annual government spending if Mexico doesn’t play ball.
Maybe Trump is bluffing. Maybe a wall that Mexico pays for is just the opening bid in a negotiation that leads to greater border security, even though nearly half of illegal immigration comes not from sneaking over the border but overstaying the visa stamped in your passport, as Marco Rubio’s pointed out on a number of occasions. And maybe Trump loses, so this is all speculative.
But the Mexican government is being pretty rational when they say they won’t pay for that fucking wall, and any efforts to retaliate to that stance will have negative impacts on the American economy.