What Tariffs are Currently in Place?
The U.S recently increased tariffs for the third time in the past year. There are now 25% tariffs on $250 billion worth of Chinese goods.
In response to U.S Tariffs China has responded with tariffs of its own (that’s how trade wars work). China has imposed tariffs which range from 5%-25% on $110 billion worth of U.S goods with Soybeans being their primary target.
The Justification for the Trade War
Trump justified the Trade war by arguing that Americans were losing because of their trade deficit with China which currently stands at over $28 billion per month. This simply means that the value of U.S imports from China is $28 billion more than the value of U.S exports to China each month.
While there are negative economic consequences of a large trade deficit, there is an obvious winner; the American consumer. When U.S businesses import cheap Chinese products, Americans are able to buy more goods and raise their standard of living without increasing their income. Which is a good thing considering wages in the U.S have barely budged until recently.
Trump's views of how trade works are encapsulated in this Tweet from March 2018 where he stated that the solution to a trade deficit is to stop trade and that trade wars are “good and easy to win”
Trade War Losers
It’s difficult to find many “winners” in the trade war, but there are many losers.
Based on other Tweets Trump has made about the tariffs, he seems to believe that it is the Chinese who will pay the tariffs. That is not how tariffs work.
American businesses that import Chinese goods will pay these tariffs. At least, they will be the ones who pay the upfront costs of the tariffs. Which brings us to the next loser.
Who do you think importers will pass along the cost of the tariffs to?
The American consumer. Like with any tax, businesses will pass along as much of the additional costs as they can to consumers through higher prices.
So far, the damage has been mild. At the end of 2018, the cost of tariffs to American Consumers was nearly $2 billion. Expect that number to increase in 2019 as the trade war heats up.
The U.S is the worlds largest exporter of Soybeans and China is the worlds largest importer of Soybeans. What happens when they stop trading with each other?
The price of Soybeans plummets to their lowest levels in 10 years. So far, the government has announced $27 billion in federal tax revenue to be used to subsidize soybean farmers and buy back some of the soybeans that China is no longer buying.
Whether or not this funding is enough to cover farmer’s short-term losses, the real damage will be in the long run. Farmers have spent decades building a relationship with China to buy agricultural commodities. This trade war may do permanent damage to that relationship.
The American Taxpayer
As just mentioned, the American taxpayers have already footed $27 billion worth of aid in the agricultural sector alone. If the trade war intensifies, don’t be surprised if you see similar aid packages funded by the taxpayers for other industries that are damaged by the trade war.
Following stock market coverage over the past 15 months has been amusing.
It seems like every time the market has a good day you will see the following headline; “Markets recover as U.S-China trade talks take a step forward”. Every time the markets have a bad day you see the opposite headline “Markets tank as U.S-China trade talks stall”.
According to One estimate, the trade was has reduced the S&P 500 by 6%. If you had $1 million invested in the stock market when the trade war began, this has cost you $60,000.
As much as China has a trade problem, they also have a debt problem. Have you ever wondered how China has been managing 6% or more in annual GDP growth? They have leveraged (meaning they have borrowed) to fuel that growth.
China’s “official” debt-GDP ratio is close to 50%. However, many view that number with a large amount of skepticism as it is provided by China who is both the lender and the borrower in this situation. Some “unofficial” estimates have China’s debt-GDP ratio as high as 300%.
The trade war has put China’s plan to begin deleveraging on hold.
The U.S Economy
Currently, there are only tariffs on $250 billion of the total $540 billion worth of Chinese imports. If tariffs were applied to all Chinese imports, we could see the following sequence of events.
- Consumer prices and inflation increase
- To combat rising inflation, the Fed raises interest rates
- Indebted households and businesses will reduce their spending
- Consumption, investment, exports, GDP and employment will all be negatively impacted.
U.S & China account for approximately 40% of world GDP. If either or both countries experience prolonged economic slowdowns or recessions, the global economy will follow suit.
So, who loses in a prolonged trade war? All of us.