US tariffs could end up biting the hand that feeds the consumer
Until recently, protectionism had gone quiet in the press. But Donald Trump has never stopped playing the pugnacious attack dog of the anti-trade movement.
Was the announcement on steel and aluminium tariffs just another bolt out of the blue from an unpredictable White House, or a more worrying predisposition to bite the hand that feeds American consumerism?
As other policies were prioritised last year, many investors convinced themselves that Mr Trump’s campaign-trail tirades against the perceived evils of trade were just for show and that he wouldn’t legislate for them. But we informed our clients of three strands of evidence to the contrary, and now, with tariffs against steel and aluminium and tweets about trade wars being “easy to win”, the risks are more obvious than ever.
Now, to be clear, we think it is too soon to declare the start of a global trade war. The tariffs aren’t going to be as indiscriminate as they first looked, with some of America’s allies exempted. We’re also waiting for the outcome of — and response to — an investigation by US Trade Representative Robert Lighthizer into alleged Chinese violations of intellectual property rights. But we want to make our position clear: nobody wins a global trade war.
So why should we be wary of assuming Trump’s anti-trade tirades were just for show? First, trade still featured heavily in the speeches he gave at rallies, which were rarely televised. His website continues to post updates about what he is doing to combat its perceived ills. And that’s quite sensible politics because his base is very anti-trade. What’s more, only a third of Republican-leaning Americans thought free trade had helped their financial situation and only half of all Democrat-leaning Americans, according to a Pew Institute survey from 2017. Former Presidents Richard Nixon and Ronald Reagan, and even George W Bush and Barack Obama, passed protectionist policies without any dent to their credibility. Mr Trump is not constrained by his electorate.
Second, Mr Trump immediately made conspicuously anti-trade appointments when he took office. His Commerce Secretary, Wilbur Ross, and his Trade Representative, Mr Lighthizer, have dedicated most of their careers to lobbying for protectionist measures. Pro-trade moderates that had Mr Trump’s ear kept resigning or losing influence (Gary Cohn, his chief economic adviser, being the latest and most telling).
A calculated decision
We’re sorry to disappoint anyone looking for a more sensational story, but the steel and aluminium tariffs were not a hot-headed decision, they were calculated. Mr Ross has spent the last nine months investigating whether imports of steel and aluminium posed a threat to American national security. The national security arguments may sound like sophistry given that most imports come from America’s allies, but that was calculated too – it’s the only basis for enacting protectionism without contravening World Trade Organization rules.
Third, the Trump administration has overseen myriad pieces of protectionist legislation too arcane to be reported in the national papers. According to the independent Global Trade Alert initiative, US policy has moved sharply in favour of domestic firms: in the first half of 2017, US policy initiatives hit the commercial interests of G20 partners 26% more often than during the same period in 2016. At the same time the number of trade-liberalising legislations fell 49%. The reference year was not unusual; Trump has just ramped up a growing protectionist trend.
For sure, exports are a more important source of income and wealth in many other countries (exports to the US are a particularly large part of activity in Mexico, Taiwan and Malaysia), and the US is likely to be less scathed by a global trade war in the short run. But that’s a relativist assessment that doesn’t help the US consumer.
As well as being bad for consumers around the world, the prospect of a descent into a beggar-thy-neighbour global trade war is one of the biggest risks to investment returns over the next decade. Discontent with globalisation is widespread — we can see clearly in hindsight that it was a key influence in the Brexit vote and US presidential election — but we believe protectionism to be a very poor means of alleviating it.
Taken at face value, protectionist tariffs provide a large, easy-to-quantify gain to a small but visible and vocal number of people. But they simultaneously deliver a small, hard-to-quantify loss for every member of a large and silent majority. The aggregated impacts of those small losses invariably far outweigh the ostensible gains. Some real-world examples help illustrate this. Between 2009 and 2011, the US raised tariffs on imports of Chinese tyres from 4% to 39%, which President Obama claimed had saved over 1,000 workers from unemployment. But a detailed study by the independent and fiercely respected Peterson Institute for International Economics suggested that they came at a very high cost — at least $1 million per job ‘saved’.
According to the US government’s own General Accounting Office, protecting US sugar growers and refiners during the 1990s benefited producers to the tune of $1bn, but cost consumers $1.9bn, or almost double. In the case of the ‘Trump tariffs’ on steel and aluminium, independent think tank The Trade Partnership has estimated that, taken at face value, the tariffs would add 33,464 jobs in the US metals industry, but cost 179,334 jobs throughout the rest of the economy — a net loss of 146,000 jobs (figure 4).
Figure 4: Job creation and destruction
A think tank has estimated the impact of Trump's tariffs on US jobs.
Source: The Trade Partnership and Rathbones
A nation of consumers
The benefit of trade is perhaps most easily understood at an individual level. Despite some of our ‘River Cottage’ escapist fantasies, most of us do not produce even a fraction of what we consume. We specialise in a certain activity, earn some income and use it to buy the things others can produce more efficiently (see our October 2016 research report Trade of the Century for more detail on the benefits of trade and high costs of protectionism).
Mr Trump’s March tweet that trade wars are easy to win is, for once, based on a little homework, but homework that would receive a rather low grade for taking an erroneously binary approach to history. Messrs Nixon and Reagan’s protectionism was met with appeasement: America’s trading partners agreed to appreciate their currencies against the dollar, which is exactly what Messrs Nixon and Reagan wanted all along. Appeasement averted a global trade war.
But America’s trading partners took a tactical defeat in order to achieve the strategic victory: the ongoing globalisation revolution. Now that globalisation has been achieved (global exports measured as a percentage of global GDP are no higher today than they were 10 years ago, while growth in trade has been less than the growth in GDP for most of the last decade), there’s less incentive to appease and retaliatory tariffs are a more likely outcome — or perhaps a stronger dollar. Furthermore, the US consumer is not as important as it was in the 1970s or 1980s. US household consumption now accounts for 21% of global consumption (adjusted for purchasing power), down 5% over the last 20 years; 18% of Chinese exports go to the US, down from over 34% in 2005. The risk of a tit-for-tat trade war against the US is greater this time, and would still be systemically significant to financial markets (figure 5).
Moreover, any country that adopts an isolationist approach while the rest of the world continues to integrate will lose out over the long run. Supporting uncompetitive business in which one lacks comparative advantage — because you’ve burned the bridges of trade and co-operation — undermines investment and productivity. Growth in investment and productivity has already slowed considerably across the world, and slower growth means lower potential returns in financial markets.
Figure 5: Share of total steel exports (%)
Trump's tarrifs are unlikely to have much impact on China, which exports less than 3% of its steel to the US
Indeed, we may be seeing that view playing out in the currency markets already. The dollar has sold off since the tariffs were announced at the beginning of March. Are traders expecting a rerun of the 1970s and 1980s when Washington used tariffs to get foreign partners to appreciate their currencies? Or are they thinking longer term: that a turn to isolationism presages the end of the dollar’s days as the global reserve currency? For if the US is reshoring its factories and production lines, if its households are no longer the consumer of last resort, if its commander-in-chief and most voters do not want it to be the free world’s defender of last resort, and if its governments are among the world’s most fiscally profligate, why would non-American institutions put all of their eggs in its basket?
Free trade has undoubtedly accelerated the broader process of ‘creative destruction’ and the corollary is greater disruption to working lives. To secure the benefits of trade for future generations, policies that soften the disruption and diffuse the more immediate spoils are badly needed. If they’re neglected, the nationalistic demagoguery of maverick, anti-establishment politicians could deliver shock results — to politicians and investors alike.