The Economist: No Winners from a Global Trade War

A new era of protectionism in the name of “national security” is not in the world’s — or America’s — best interests, warns Stephen Walters GAICD.

Contrary to what Donald Trump tweeted back in March when announcing his plans to impose punitive tariffs on steel and aluminium imports into the United States, trade wars are not “good” and nor are they “easy to win”. In fact, history shows that there are few winners from trade conflict — only the relative degree of loss matters.

The American President shocked even his closest allies by announcing new tariffs — 25 per cent on steel and 10 per cent on aluminium — including imports from Australia. These are in addition to the imposts added recently to imported solar panels and washing machines, and the latest vague new tariffs aimed at China. President Trump used the fig leaf of “national security” to deliver on his campaign promise to protect local industries and jobs. The US’s latest protectionist folly, albeit not unexpected, is targeted principally at China. But China accounts for just two per cent of US steel imports, so the additional damage from the latest move may be felt elsewhere. Indeed, the steel import shares for Canada, Mexico and South Korea are larger.

Subsequent reports are that Trump has agreed to exemptions for Australia as well as Canada and Mexico, although these may be temporary. But there remain lingering concerns that steel from other countries that was destined for America might be redirected to Australian domestic markets at below cost price, which could threaten Australian steel and aluminium makers.

The Trump administration argues, wrongly, that a yawning trade deficit signifies that the US is being exploited and is losing an imaginary, but bitter, trade battle. This flaccid argument ignores the broader welfare benefits associated with trade, which have long been supported by academic research — and common sense. Simplistic, inward-looking, protectionist arguments have been discredited for years.

Indeed, the truth is that the US’s persistent trade gap is a sign of economic confidence and health, not weakness. It signifies that households, government and businesses in the US are prepared to invest more than is provided by the domestic pool of savings. The trade imbalance is merely the flip side of the wall of foreign investors’ money entering the US to plug the deficiency in domestic savings.

This is not the first time the US has threatened to impose tariffs on Australian steel imports. George W Bush did much the same thing as recently as 2002, during his presidency, only to back down after what turned out to be unexpectedly hostile reactions from major trading partners, including Australia. After all, the US had a material trade surplus with Australia back then — it still does.

Worryingly, the latest ill-advised action by Trump effectively fires the starting gun on a new global trade war. The leaders of affected countries, including Canada and major economies in Europe, have expressed shock and outrage that a so-called ally would inflict such punitive damage. Australian officials have conveyed similar sentiments. China has already imposed tariffs on US goods, including fresh fruit, wine and pork to recycled aluminium and steel pipes.

The risk now — more a likelihood, actually — is protectionist retaliation, even though clear-eyed assessment of the escalating damage would indicate that such revenge is unwise. There is already talk of tariffs being imposed on iconic US exports such as Harley-Davidson motorcycles, aircraft parts, bourbon and jeans.

By design, the imposition of tariffs raises the price of imported products, with the often-futile hope that this will convince local consumers to buy relatively cheaper, locally made products instead. Moreover, higher prices for products like steel cascade through the broader economy. These price pulses will come at a time when inflation pressures are already bubbling up as economies with dwindling spare capacity start to overheat.

The inevitable extension of rising inflation is that central banks will be forced into more aggressive interest-rate hikes. Some — including the US Federal Reserve, Bank of Canada and Bank of England, respectively — have been raising interest rates for some time. Other central banks will join them as inflation rises.

So, while ring-fencing a local industry with tariffs may appear to insulate against job losses in the near term, the reality is that broader, long-lasting damage would be done elsewhere. Consumers, for example, would face higher prices and possibly less choice, as well as the prospect of higher borrowing costs.

Supply chains are also more global than ever, so imposing tariffs on imports may in fact adversely affect American jobs. European car manufacturers BMW and Volkswagen, for instance — whose cars already attract tariffs — both have production facilities in the US. What is the likely impact of escalating trade conflict on Australia? For starters, Australia is a major exporter of the iron ore and coking coal that China uses to make what will become higher priced steel in the US. We also export steel directly to the US, though the market is small in relative terms.

The biggest trade risk is that escalating conflict would see growth in global trade slow even further. Growth in worldwide trade flows has already halved in the aftermath of the global financial crisis almost a decade ago — and that was before this latest wave of protectionist madness. Even slower growth in trade would bring serious costs for a small, open, exporting economy like Australia’s.

Perhaps, though, there’s a bigger risk with the potential for even greater destruction. If China really wanted to exact revenge on the US, it would forget about imposing tariffs on Levi’s, Harleys, steel pipes and pork, and consider selling its vast official holdings of US Treasury bonds — China is by far the largest non-domestic holder.

A wave of bond-selling would come at a time of higher inflation and as purchases by the Fed are being scaled back. The result would almost certainly be significantly higher long-term interest rates in the US. Paradoxically, over time, this would help to correct that country’s trade imbalance; the sudden capital outflow would see the US dollar plunge, making exports cheaper and imports more expensive.

However, the damage done to American and global growth prospects — by higher borrowing costs and, by extension, to the economic outlook for Australia — would be a heavy price to pay. As we have learnt time and again over many decades, there are very few winners from global trade wars.