The Economic Impact of Trade Disputes
Economic growth in the past two decades has been propelled through globalization and the efficiencies that arise because of it. When companies are able to access saturated labor markets, lowering labor costs, prices around the world go down, companies make more money, employ more people and the Global GDP keeps ticking upwards. In the past couple of years, however, trade protectionism has risen as a key political magnet for polarizing politicians, and in today’s news, we often see news of tariffs and trade disputes arising, especially surrounding the US and China. But Donald Trump isn’t totally clueless. China has been distorting export prices through subsidies, preferential lending rates and depreciating their currency for decades. The question is, is it worth it to try and punish China? Furthermore, we must consider what the actual impact policies implemented to balance trade deficits and prevent dumping are having.
On theoretical grounds, global trade is known to reduce costs and increase efficiency because it allows for countries to specialize in producing certain goods at lower costs, using fewer resources; and export those goods while importing ones that are harder to make within their country. This practice allows for the maximum amount of goods to be produced and consumed globally. As technology has developed, trade has only become more prevalent, and supply chains have diversified to include global players from Europe to Asia, to Australia. When tariffs are raised, or international relations decay, it becomes more and more expensive for businesses to include that particular nation as part of their supply chain, which results in price increases, delays, and eventually a shift in the entire supply chain.
So why implement tariffs in the first place? There are many many reasons. First, countries like China often resort to dumping their products into new markets, which is a real threat to developed local businesses; subsidized foreign goods make local prices uncompetitive. Tariffs are often implemented for this reason: to protect market forces in a nation from the distortion caused by cheap foreign goods. However, tariffs are often also raised for political reasons. These range from social differences to populist movements. When placing tariffs because of social differences, it is important to recognize the economic cost of that choice. When it comes to populist movements, “Country X will come first”, targeting specific countries and tariffing all their imports does more harm to the economy than it does good. Supply chains will shift, and jobs will not come back home; instead, companies will find other global partners, just at a slightly higher cost.
A prime example of what I’ve outlined above is the US-China trade war. The US has implemented 250 billion dollars in tariffs on China, and China has countered that with 110 billion dollars in tariffs (Wharton, 2019). Roughly 165 billion dollars will be shifted in 2019 if current tariffs remain in place, essentially changing the supply chain (Wharton, 2019). This comes along with a cost. Companies are taking their business to what was once more costly nations, but considering tariffs, are more cost-effective, raising the costs of conducting business. This means that resources are not used efficiently and that tariff revenue to the US does not increase, both of which create a deadweight loss. The New York Fed estimates that this deadweight loss is worth 79 billion dollars, or 620 dollars per person (Wharton, 2019). Although in the short run, businesses can absorb the majority of the cost, eventually that deadweight loss will be passed onto consumers. In China, vehicle and electronics sales have dropped tens of percentiles, and the World Bank has slashed GDP projections for China in 2019 by 0.6% (South China Morning Post, 2019). These statistics clearly outline the economic cost of trade wars. Trump supporters would then say, “well we’ll take some inefficiency to take all that production away from China, bringing it back home”. The irony is that the majority of that production has simply been shifted to Vietnam, whose exports will rise 27% this year if the tariffs are maintained (SouthChina Post, 2019). With this in mind, it is important to remember this is a tactic by the US government to gain concessions from China on a variety of topics, and when considering the costs, one must consider the potential benefits that could arise from a favorable deal.
When taking an example like the US and China, it is important to note that tariffs around the world amount to trillions of dollars in deadweight loss and demonstrate countries’ reluctance to shift industries to reflect global market factors. Jobs are at stake when tariffs are raised (just look at the restrictions on Canada’s dairy market), and it is politically impossible to simply let jobs leave the country. With this being considered, as is demonstrated in the US-China trade dispute, raising tariffs and/or interrupting free trade creates enormous amounts of deadweight loss which are passed onto consumers. So the next time you buy dairy products, products with steel and aluminum, or many clothing items, consider that, although jobs were created in Canada to produce those goods, if markets were left untouched, you would likely be paying considerably less for those goods. Sometimes tariffs are very much necessary and provide vital protection to local industries, but every economic policy that makes doing business harder comes at a cost, not only to the businesses but to society as a whole.
Written by Simon Hungate, Writer for the Junior Economist
Originally published on October 14th, 2019
