Tuesday, May 1, 2018

What's worse than tariffs?


This morning's Wall Street Journal "Trump postpones steel tariff decision.." starts optimistic
President Donald Trump eased trade pressure on top U.S. allies Monday, giving the European Union and some nations outside the bloc more time to negotiate deals that would exempt them from U.S. steel and aluminum tariffs..
But it turns out those "deals" are worse than the original
The Trump administration is backing broad restrictions on the trade of metals to limit the direct and indirect effects of Chinese steel and aluminum production on the U.S. market. “In all of these negotiations, the administration is focused on quotas that will restrain imports, prevent transshipment, and protect the national security,” the White House said in a statement. 
Quotas are worse than tariffs. With a tariff, you can at least measure and limit the damage. Imported steel pays a tax, and then costs 25% more.  But you can import as much of the stuff as you need, and the damage is limited to a 25% price rise.

(On that word. Free traders should insist on "import tax" rather than "tariff" to remind taxophobic Republicans just what they are doing.)

With a quota, by contrast, the price difference can get as big as it wants and so the damage can grow unbounded. Moreover, it's harder to see -- you have to look at exchange-rate adjusted price indices which people can ignore as one more government statistic. When you pay 25%, you see it.

Finally, with an import tax, our perpetually cash-strapped government gets the revenue. With a quota, the lucky foreign firms that get to sell get the full price difference as profit. Changing a 25% tariff to a quota that results in the same amount of imports sends that 25% as a direct cash transfer from the U.S. Treasury to the foreign firms. It also empowers the foreign government to impose a little cartel among their producers to decide who gets the goodies.

The White House got one thing right -- "prevent transshipment." It has dawned on them that steel is a pretty homogenous commodity. But even that won't work unless every country agrees to quotas. Ah, "broad restrictions" here we come.

This trade salvo was excused initially as a bluff to force freer trade on China and good bilateral free trade deals around the world. This is the opposite -- a global managed trade in which governments collude to specify quantities that their pet industries may sell at large profits around the world.
South Korea...accepted limits on exports, often called “voluntary export restraints,” and won a long-term tariff exemption... the White House said Monday a final agreement had been reached.
They are also called illegal if domestic companies do it. Coordinated voluntary output restrictions are exactly what anti-trust law is supposed to prevent. And then the profits at least go to US firms not to Korean ones!
One sticking point is whether European allies will accept quotas on their metals exports, something they resisted, and which they said violated rules of the World Trade Organization.
Alas, the Europeans seem to be instead following us down this insane road. 
The European steel industry has already felt the fallout of U.S. tariffs. Big exporters to the U.S.—countries like Brazil, Turkey, Russia, South Korea, Egypt and China—have ramped up exports to the European market to avoid American trade barriers, dragging down prices for domestic producers.
Steel imports in the EU rose 300,000 metric tons to 2.9 million tons in the first quarter of 2018, versus the same period a year ago, according to Eurofer. The European Commission, the bloc’s antitrust regulator, is considering whether to impose safeguards to prevent a surge of imports.
The ultimate irony will be when anti-trust regulators get into the business of enforcing collusion, output reductions and higher prices.


  1. (1) The purpose of quotas or tariffs is first and foremost to increase the prices American consumers pay to American producers.

    (2) The national security claim seems spurious when America's NATO allies are the largest suppliers of steel and aluminum.

    (3) Quotas can have have compositional effects on imports. If the quota is for tonnes of "steel", then foreign countries will export the higher, more expensive, grades of steel to the United States.

    (4) If the tariffs or quotas go ahead it will be interesting to see the studies on the cost to American businesses and consumers per job "saved". Cato says that the lumber tariffs have cost over a million dollars PER year PER job.

  2. I heard Electrolux, a Swedish-based company, decided to not invest in the U.S. after hearing of Trump’s steel tariff plans. To what extent do you think that all this tariff and quota talk is reducing investment in the U.S. that would have otherwise occurred due at least in part to the changes made in the new tax law?

  3. Okay I'm going to go way out on a branch here.

    Macroeconomists tend to think of Americans as consumers.

    But Americans tend to think of themselves as producers.

    In his last iteration Cochrane criticized the EPA for anti-democratic bureaucratic impulses.

    But in a democracy, if the voters see themselves as producers and prefer economic security to a slightly higher living standard, then what should trade policy be?

    If the United States runs a chronic and large current account trade deficit, then we will ultimately see gross national income decline, relatively.

    Who is to say the voters are wrong in this case?

    1. I think you are assuming that most voters have properly done the math and know the consequences they will face as a result of this decision. In that world, indeed who is to say the voters are wrong? But if they would change their minds knowing (within a reasonable level of confidence) how much costs would increase then maybe they are wrong.

    2. Ben,

      "Who is to say the voters are wrong in this case?"

      No one is saying that the voters are wrong. John has simply pointed out that the policies being pursued will not achieve the outcome desired.

    3. "If the United States runs a chronic and large current account trade deficit,"

      Part of the reported current account deficit is an artifact of how it is calculated - particularly as a result of US companies artificially shifting profits off shore to avoid taxes.

      The rest of the current account deficit is basically driven by US borrowing from Asia and Europe. If you don't want a trade deficit, increase your taxes and stop borrowing.

    4. Absalon,

      "If you don't want a trade deficit, ... stop borrowing."

      Whether you increase or decrease your taxes, increase or decrease your spending is immaterial to the argument.

      The key phrase is "stop borrowing".

  4. Moreover, isn't it true that the beneficiaries of quotas are connected foreign firms? Like in Brazil, they are going to have to hand out these quota privileges. The firms will benefit from higher prices and a quasi-monopoly position. With a tariff, the price difference would've gone to the Treasury.

    I have to think this is driven by a sort of compromise among trump admin officials: on the one hand, they think taxes are always bad; on the other, they think trade restrictions are good. So they reach for a trade restriction that isn't a tax, even though it's obviously worse than a tax. On the other hand, maybe these are the only way they can get around WTO rules and keep other nations from retaliating with their own tariffs: by creating foreign winners from the trade restrictions (the firms who get to export), they create a constituency for not retaliating.

    I wonder if Kudlow and Hasset will be able to explain these things to the president.

  5. I have the perfect tariff system,but it requires a proportional democracy, like the UK. Parliament applies a tariff on anything, domestic or foreign, which pisses them off. Parliament un-applies the tariff when they are no longer pissed off.

    Then tell the high school kids to drive down pricing costs so tariffs are applied with no discernible cost. The entire debate is then simplified to one question: What are you pissed off about?

  6. Interesting choice of words:

    "On that word. Free traders should insist on an import tax rather than tariff to remind taxophobic Republicans just what they are doing."


    "Phobia - An exaggerated, usually inexplicable and illogical fear of a particular object, class of objects, or situation"

    Is the Republican fear of taxes exaggerated, inexplicable, or illogical?

    From a political standpoint, not at all. From an economic standpoint, most certainly.

  7. This post would be better with a short literature review starting with the 1965 paper by Bhagwati. Here is a nice summary of the literature:


  8. The other problem with quotas is that it forces a sort of line mechanism. Firms in foreign countries will attempt to get first in line to unload their product before anyone else can, so they can sell their stuff and not be stuck with inventory lying around. Plus, like Dr. Cochrane says, collusion ends up being a problem in essentially selling quotas to foreign firms via odd and potentially disastrous deals. It's a spectre of central planning, not letting the markets function as efficiently as possible.

    No country can really exist in Autarky anymore. Specialization can run into countries wrestling with one another via competition -- who can produce at the greatest efficiency? China's huge human capital factor endowment set things off kilter for labor worldwide, and by extension, surpluses. Imposing tariffs on industries that are susceptible to predatory dumping by foreign firms has its virtue to protect domestic labor from getting annihilated via competition. The whole project of globalization after WW2 was to integrate economies to foster economic efficiency, hopefully leading to stability. But, not everyone is happy, are they?

    The US likes cheap products as it also likes having real purchasing power. Real wages have barely moved in 40 years, and that's cause for concern. Who will buy these products if real wages stagnate and tariffs/quotas are imposed, hmmm? Watch consumption take a dip. It also leads to the problem of debt fueled consumption.

  9. One other thing in the long list of reasons why quotas are a bad idea: The foreign firms that have a share of the quota will tend to substitute higher valued goods that can be included under the quota. This was a likely consequence of the “voluntary” export restraint on cars in 1981. Since the major Japanese manufacturers could only export a certain number of units, they sold more of the higher margin luxury cars. Sadly, this was the product group for which the US manufacturers still enjoyed a comparative advantage. In other words, the quotas made the Japanese car companies more profitable, and they also created incentives for them to compete more aggressively in the luxury car market. Steel is a more homogenous good than cars but but it is not a simple, single product.

    1. apparently this has been though of in advance. There are quotas by category so entire quotas cant be filled with one particular good.


  10. i realize this is about quotas not tariffs but a couple questions: in the example grumpy economist used he uses 25% tax on steel. but the reality is steel tariffs are 400%? also, how does a tariff get set? what is the magic number? should the magic number be the tariff 'revenue' maximizing point?

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