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Trump’s outdated trade policy

27 Sep 2016 - 10:14
Source: pixabay.com

Although the polls show Hillary Clinton is ahead in the current election campaign, it is far from inconceivable that Donald Trump could be elected. Like in many Western countries, a considerable proportion of the American electorate is dissatisfied and would seem to prefer polarising and confrontational policies. Emotion reigns supreme, as shown by the recent results of the Brexit referendum and the Dutch referendum about a free trade agreement with Ukraine. Choosing Trump would fit neatly in this trend.

A central theme of Trump’s election campaign is standing up for American interests in international trade. Because of the importance of this theme in his campaign, it would be difficult for Trump – if elected – to change his position. We should therefore take his statements seriously, even though they have been made at election time.

Aside from the strident electoral rhetoric, Trump does have a point, particularly with regard to China’s trade policy. Chinese policy embodies a number of key elements that prevent a level playing field. Examples are the exchange rate manipulations, support for Chinese companies in the form of finance guarantees, the requirement that American companies must share intellectual property rights with Chinese competitors, failure to adopt strict environmental requirements and standards for working conditions, state cyber-espionage and so forth. This trade policy has given the Chinese export sector a powerful starting position that it is difficult for Western companies to compete against.

Trump’s analysis strikes a chord among economically vulnerable voters. His trade policies are based on two ideas, to which he has added a statement that he is not aiming for protectionism but for accountability[1]: holding countries responsible. On the one hand, the policy focuses on getting the WTO trade rules observed by all parties involved. If that does not happen, then as far as Trump is concerned, countries should be charged at the WTO and the WTO rules should be enforced. In this, Trump is in line with the global multilateral trade framework. On the other hand, Trump’s accountability is expanding to become protectionism: he wants to impose import tariffs against countries that do not stick to the rules. This makes him look like a champion of the level playing field, but he is in fact favouring American companies. He has for instance proposed a 45% import tariff on Chinese products[2]. But he then goes even further: he wants to punish American companies that build factories abroad. He threatened that Carrier, a company that makes air conditioning systems, would have to pay a 35% import tariff if it moved a factory from Indiana to Mexico. Trump’s idea of accountability looks suspiciously like protectionism.

These kinds of protectionist policies are not effective, for a number of reasons. In the first place, high import tariffs will make the country’s own currency rise in value, which damages its own export sector. That observation was made by the IMF, which calculated that economic growth and employment will decrease in the country as a result. These effects are exacerbated if the affected countries take retaliatory measures[3]. The Peterson Institute has worked out the details for the example of increased import tariffs for Chinese tyres[4]. This shows that these higher import tariffs led to increased imports from other countries such as Mexico, Thailand and Indonesia. So those countries profited nicely from the American measures. In addition, the prices of domestically produced tyres went up substantially, so that American consumers had to pay more for their tyres. This meant they had less to spend on other goods and services, causing jobs to be lost elsewhere. Protecting employment at American tyre manufacturers saved 1200 jobs in the US, but at a cost of 1.1 billion dollars.

In the second place, measures such as these often lead to tit-for-tat measures. For instance, the American measures described above led to retaliatory Chinese measures. China increased the import tariffs on American chicken products, as a result of which American exports of such products to China fell by 1 billion dollars.

There is a third important argument as well. The development of the global economy has not stood still over recent years. Technological developments (communication, containerisation and computerisation) have hugely increased the connectivity in the global economy. Globalisation has made it possible for companies to chop their production processes efficiently into chunks so that a product is no longer necessarily produced in any single country[5]. So-called ‘global value chains’ result in components of a product being produced in different countries. These connections render exports partially dependent on imports. Making imports more expensive through higher import tariffs can then directly damage the competitive position of the country’s own export sector. The OECD has calculated that the proportion of foreign added value embodied in American exports of certain goods has increased massively[6]. Over the period 1995 to 2011, the foreign share in chemical products and basic metals doubled to roughly 25%. For motor vehicles, the share of foreign added value in the exports rose to 35%. There could hardly be a better illustration of the mutual interconnectedness of economies and international production chains.

Finally, a trade war with China is an outdated idea, because the Chinese economy is changing. The emphasis is no longer on the Chinese export sector but on domestic consumption. That means that an enormous consumer market is developing in China. It is then more useful for Trump to focus on American exports to China, instead of continuing to combat Chinese imports into the US.

Trump is ignoring the fact that 80% of the world’s economic growth over the next five years will be generated outside the US[7]. In a world with substantial mutual dependencies, a mercantilist vision of international trade no longer holds water. Trade policies within the existing multilateral frameworks, such as the WTO, are then more effective than simply unleashing a trade war and imposing higher import tariffs. Trump’s trade policy might have worked in the 1970s or 1980s, but not any more.

 



[1] https://www.donaldjtrump.com/positions/us-china-trade-reform

[2] http://www.nytimes.com/2016/03/11/us/politics/-trade-donald-trump-breaks-200-years-economic-orthodoxy-mercantilism.html?_r=0

[3] https://blog-imfdirect.imf.org/2016/09/08/tariffs-do-more-harm-than-good-at-home/

[5] An example that has been worked out in detail is the iPhone: http://comparecamp.com/media/uploads/2014/09/how-iphone-is-made.jpg

[6] https://stats.oecd.org/index.aspx?queryid=66237#

[7] http://www.imf.org/external/pubs/ft/weo/2016/01/pdf/text.pdf