Many people who talk about tariffs are victims of ignorance about how tariffs work. I include in this group, the ‘Tariff Man’ himself, Donald Trump, of course, and also his inner circle of advisers. They either do not understand tariffs at all, or pretend not to, for political advancement. There is not much of a future for an administration employee who takes the president to one side and explains that he is completely wrong.
The position of Trump, which many people seem to have accepted, is that tariffs are somehow a tax on foreign countries, and that they will bring money into the USA.
How tariffs work
Let us consider how tariffs actually work. They are taxes imposed on the importers of goods. For example, if China exports a car priced at $20 000 to the USA, a 20% tariff will require the importer to pay $4,000 to the US government. China pays nothing. If the importer is planning to sell the car to consumers for $25,000, in order to generate a profit of $5,000, either they pass the tax on to consumers by raising the price to $29,000, or they absorb some or all of the tariff by reducing their profits. Which is more likely?
It is true that the Chinese manufacturer might absorb the tariff by reducing its own profit, but if, for example, it costs $17,000 to actually make the car, they are not going to absorb the tariff and sell the car for $16,000, for obvious reasons. They might reduce their selling price slightly, but the car will still be more expensive for US consumers, and there will be fewer sold. Chinese manufacturers are unlikely to want sell fewer cars at a lower price.
How do US firms respond?
Next, consider what happens to the price of cars manufactured in the USA. Cars which are comparable to Chinese cars will now be competing against more expensive competitors. Is it at least possible that the reduction of competition will enable them to raise their prices, since they now face less pressure from cheaper imports? This applies to tariffs on almost anything. If tariffs are imposed on imported steel, the rise in price of competing imports will allow and encourage domestic producers to raise their prices.
Recently, Trump’s press secretary declared that tariffs actually reduce taxes for US citizens. A clearer example of economic illiteracy is hard to find. It is, of course, very difficult to think of any cases where imposing a tax has caused prices to fall. Tariffs are sales taxes imposed on, and paid by, importing firms, and although it is theoretically possible that the importers might absorb the burden by reducing their profit margins, this never happens. One thing is absolutely clear: in any of these situations, the Chinese government will never pay any of the tariffs.
There are some arguments for the limited imposition of tariffs. For example, a country might reasonably use tariffs to protect an “infant industry” until it is big and strong enough to compete internationally. The usual argument against this is that industries may never grow up but instead continue to require protective tariffs on imports.
Trump’s ‘we’re being ripped off’ argument
The kind of argument which Trump uses to justify tariffs is to say that other countries are ‘taking advantage of the USA’ or that Canada is ‘being subsidised to the tune of $200bn’. This is based on a complete misunderstanding of international trade. If Americans buy more goods and services from Canada than Canadians buy from America, there is a trade deficit. This is entirely down to consumer preferences.
If I go shopping each week at Sainsbury’s, and they never buy anything from me, I have a trade deficit. I am not subsidising Sainsbury’s, nor are they ripping me off. If tariffs were imposed to make Sainsbury’s goods more expensive, I clearly do not benefit, and nor does Sainsbury’s, since the tariff revenue would go to whoever imposes them (the government, presumably). I could start growing my own food, but it is not clear that this would represent an improvement for me.
Does anyone benefit from tariffs?
Virtually anyone familiar with economics will tell you that everyone, with few exceptions, benefits from trade, and that restrictions on trade make most people worse off. It is true that tariffs on, say, imported sugar could protect jobs in the sugar industry, but with the result that domestic sugar prices rise along with the price of everything made out of sugar.
There may be 10,000 jobs saved in sugar companies, but scattered across the economy will be far more than 10,000 job losses because of rising costs, in doughnut companies, pie makers, confectionery producers, for example, but not concentrated in one industry or area.
Tariffs are destructive for everyone
The standard example of the adverse effects of tariffs is the Smoot-Hawley tariffs which the USA imposed on imports during the 1930s depression. The argument used in favour of these was that making imports more expensive would encourage people in the USA to buy American goods, thus creating domestic demand and pulling the USA out of depression.
In fact, one of the main effects was to destroy industries in nations exporting to the USA, exacerbating recessions in those countries because of the ensuing employment and collapse of demand. Why should Americans care? Well, they should care because if other countries slide into recession, they are unable to buy US exports, and demand in the USA falls.
Can tariffs benefit Americans?
Tariffs reduce trade and also reduce global income. They are also likely to reduce incomes in the country imposing tariffs, although some specific sectors might benefit. Trump thinks, or at least claims, that they can be used to generate government revenue, enabling tax cuts elsewhere which, he constantly repeats, will make people better off.
In fact, tariffs, like most sales taxes, are regressive, which means that they disproportionately fall on the poorer sections of society. Do they then benefit from other tax cuts? I think we all know who the main beneficiaries of Trumpian tax cuts are going to be.
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