Tuesday, July 31, 2018

Trade War 1914

The analogy between our looming trade war and August 1914, when events quickly spun out of control, led to this opinion essay at thehill.com. It brings together some themes from recent blog posts, so faithful readers may find some repetition. For reasons of space, a desire not to personalize things too much, and not to strain real history vs. the the superficial stories we retell,  I didn't overdo the 1914 analogy. But it's easy enough to do if you want to. An impulsive leader, sensitive to personal sleights, started something that spiraled out of control. The idea that opponents will quickly surrender, rather than stiffen their resolve, has proved wrong over and over again in history.

The trade war to end trade wars will end badly

104 years ago this August, the war to end wars broke out. It was a war that nobody wanted. The world stumbled in to it almost by accident, and then could not get out. “Wars are easy to win,” leaders thought. “We’ll be in Paris (or Berlin) by fall.”  They were equally wrong, and equally befuddled once the trenches filled with bodies.

This August, the trade war to end tariffs looms, and the world seems to be stumbling towards an economic calamity that nobody wants, propelled by similar entanglements.

What is the objective? You can’t win a war unless you know what you want, and when to stop. That principle is truer of a trade negotiation. How can China or Europe agree to do what we want, if they have no idea what will be enough for us to call the war off?

Many free marketers hope that the President wants a world with no tariffs or trade barriers.  To give him his due, our president is unpredictable, and has achieved some remarkable negotiating successes by appearing to be crazy. A world of no tariffs would be lovely. But I’m dubious this is the goal.

Yes, during the G-7 summit he said, “…everybody take down your barriers. No barriers, no tax.”  Yes, the cease-fire statement with European Commission President Jean-Claude Juncker said “We agreed today ... to work together toward zero tariffs, zero non-tariff barriers, and zero subsidies on non-auto industrial goods.”

But parse the latter carefully. “Non-auto” means protect cars and trucks, where we maintain a 25% tariff. “Industrial” means not agriculture. “Goods” means not services like banking, of which we exported  $863 billion in the second quarter. “Work toward” means a vague long time from now.

And then the President reiterated his view that we “lost $817 Billion on Trade last year.”  His view that importing more than we export, and letting foreigners invest the extra dollars in the US amounts to  “losing” on trade is far more consistent than his recent free-trade conversion. And as long as the US saves less than we invest, the trade deficit cannot end. That goal is a recipe for endless war.*

President Trump took a tour through Steel country. He did not say, “I’m glad you’re working. But in six months I hope to pull all these tariffs down, and see all of you unemployed and this mill shut down again. But don’t worry. Once we get China to defend intellectual property, Google, Facebook and Goldman Sachs will be making such a bundle in China it will be worth it for the country."

As this story illustrates, tariffs, once imposed, are devilishly hard to escape. Once our steel and aluminum industries and their workers get used to tariff protections, what President can take them away? Once the Chinese have retaliated with their tariffs, and their industries have grown used to protection, how can they take them away? The whole post WWII order was built around this difficulty — by creating multinational institutions, we slowly help countries to say to their protected industries, “look, it’s going to be hard, but we can’t be part of the world and protect you any more.” The result was the greatest increase in trade, and prosperity, the world has known. If Trump’s bluff fails — or if it was not a bluff to begin with — that accomplishment is lost.

Politics gets used to tariffs as well. Tariffs, and tariff waivers, and subsidies to counteract tariffs are handed out pretty much at the whim of the Administration. It won’t take long for politicians to figure out this is a great way to reward friends and to punish enemies.  Once in place, that is  another reason why ending the tariff war will be so much more difficult.

Wars go on without end when they sink into a cycle of revenge and retaliation. Trade wars too. China and Europe’s tariffs retaliate against ours. We retaliate against those. As in the great war, it gets much much worse before exhausted antagonists give in. “We can do stupid, too,” said Mr. Junckers on tariffs. And he has. Send the boys over the top into machine gun fire once again.

That’s where we are heading. After three or four rounds of retaliation and revenge, we have large tariffs and quotas, and so does Europe and China. The economy starts sinking, unemployment starts rising, and now it’s harder still to get rid of them. The multinational institutions that supported the low tariff world are destroyed. Politicians and political parties rediscover the usefulness of trade policy to demand support.

Historians debate whether individuals matter, or whether great forces of history sway events. Our trade war surely reflects the ideas and will of one person, our President Donald J. Trump. His Rasputins, Navarro and Ross, are only there by his will and invitation.

But why does he have this power? America is supposed to be a country of laws and institutions, exquisitely designed to constrain the power of one individual.  Tariffs are a tax on imports. Why does the President have unilateral power to impose a tax? The president can't change income taxes.

The answer is, because the Congress handed him that power. In the wake of the Smoot-Hawley disaster, Congress gave the Administration wide latitude to impose tariffs and import quotas. Congress got to look protectionist, but count on Administrations not actually to do anything terrible. That gamble just failed.

Our trade law basically says that the Administration should impose tariffs if any industry is hurt. But what industry is not hurt by competition from abroad? The national security provisions under which the Trump administration is acting are even vaguer.

By now, both parties ought to be sick of the imperial presidency. Congress: Take back the power to impose tariffs. Or at least write reasonable statutes: that tariffs and quotas may only be imposed if consumers are harmed. If national security is at risk, let defense ask for money and choose whether it prefers a new aircraft carrier or an old steel mill.

Yes, I know, Congress is riven by partisanship and squabbling. Well, ladies and gents, if this is August 1914, you will look mighty silly when it’s over.

The rest of the world: If you recognize it’s stupid, don’t do it. Strengthen your multilateral institutions. Don’t turn Brexit into a mercantilist nightmare. TPP countries, enact a free trade zone. Ignore provocation rather than retaliate stupid with self-inflicted stupid. Grow, and let us beg to rejoin you.

*As Don Boudreaux points out, I should have written "As long as we (US citizens and our government) save less than is invested in the US..."  Foreigners can invest directly in the US.


  1. "Trade" played a significant role in triggering the Pacific portion of the Second World War. A free trade agreement in Asia might have avoided that war, and all its horrors and after effects, entirely.

    1. Or it might have simply strengthened and emboldened Japan, as the current "strategy" toward China seems to be doing...

  2. Your ultimate conclusion that Congress has abdicated its responsibility is spot on. The benefits of REAL Congressional oversight are a) Members and staff get educated by holding real oversight hearings and publishing the hearings; b) the public gets to see Congress holding oversight hearings and doing something other than pontificating in media soundbites; c) holding hearings on important issues sucks the time of the media from pontificators (pundits) of all stripes and requires media to spend time; and d) might lead to informed Congressional action in a more open process that reflects consequences rather than ideological preferences alone. And, yes, Congress should withdraw from the executive the unilateral authority to impose tariffs.

    1. You assume Congress wants to both hold power, and be responsible to voters for its use. Congress wants as little accountability as possible while maintaining as much power as possible...

  3. Good stuff. I fear you are correct sir, human nature being what it is. Slight quibble with the term "war." I served in the military. Please believe me when I say, "This is not a war!"

  4. As a british newspaper put in his front page in november 1918: "Archduke Ferdinand found alive in Brazil. War fought by mistake"

  5. John,

    "By now, both parties ought to be sick of the imperial presidency. Congress: Take back the power to impose tariffs."

    You seem to be demonstrating your ignorance here.


    "Another key feature of the RTAA was the fact that if Congress wanted to repeal a tariff reduction, it would take a two-thirds supermajority."

    If Congress wants the tariffs to end, all that they need to do is garner the votes.

    It's no different than if Congress wants to pass a bill after it has been vetoed by the President - a 2/3 majority vote will pass a vetoed bill and it will nullify any tariffs imposed by a President.

    1. Watch it, we don't use the word "ignorance" on this blog. A 2/3 majority override is a lot difference than 51% (and no filibuster) to pass a tax bill, which must originate in the house.

      By your logic, just have the president write all laws and issue them by proclamation, giving congress only the authority to overrule by 2/3 majorities. Do you claim this will have the same results? The founders thought not, that's why they didn't do it this way.

    2. John,

      My point was that 2/3 majority override by Congress is by no means an "imperial" Presidency.

      I would agree that Congress ceded some power when the RTAA was passed, but not to the point of imperialism.

      "lack of knowledge, education, or awareness"

      Should I have instead said that you seem to lack knowledge of the RTAA?

    3. John,

      "The founders thought not, that's why they didn't do it this way."

      And yet, the Smoot Hawley tariff sponsored by two Congressmen (as the founders intended?) was a contributing cause to the Great Depression.

      Our founders were imperfect men.

    4. Given that I read this blog almost as much for the comments as I do for the post content, maybe a more appropriate name for Dr. Cochrane's blog would be "The Grumpy Economist and His Even Grumpier Commenters"...

  6. A very interesting analogy. May I just add that WWI was not the war that ended wars. For a variety of reasons, the carnage of how WWI ended lead us to World War II. Who knows what carnage this trade war will cause.

    1. Thanks for pointing out that after WWI we did in fact have a WWII and several additional squabbles since then. I’m sure this blog’s readers had forgotten.

  7. I surely wonder if there even is such a thing a global trade "free," "fair: or "foul."

    In some nations, such as China and Singapore, land and capital is provided to exporters, for free. That is their version of "free trade."

    In other nations, such as Germany, exporters do not pay the primary tax, the VAT. The exporters get all the benefits of government---infrastructure, fire and police, civil courts, public health---but piggyback for free. That is the Teutonic version of "free trade."

    Obviously, outside of mining and farming, absolute and comparative advantages are largely artificial and can be manipulated by government or multi-nationals.

    So we have global trade, as manipulated by government and multi-nationals. Is that free, fair or foul?

    As I have said if you want to have a serious discussion about global trade, first send in the clowns.

    In general, governments manage international trade to benefit their citizenries, and multi-nationals (properly) operate global trade to benefit shareholders (due to fiduciary obligations), and no nation.

    There is US exceptionalism in one regard: US foreign and trade policy is evidently managed by multi-nationals for the benefit of multi-nationals, and not the citizenry.

    Will higher US tariffs lead to WWIII?

    That seems like a bit of a stretch. Indeed the tariffs, in relation to GDP or global trade, appear minuscule.

    I would guess domestic property zoning is 100 times the structural impediment to the GDP that Trump's new tariffs are.

    1. Free trade is when buyer and seller peacefully, voluntarily agree to price and terms and each performs as promised.

      Anything done by government beyond that is medieval privilege peddling...

  8. I've heard all the economists say tariffs = bad; free trade = good.

    I've heard all the diplomats say nukes = bad; no nukes = good.

    Based on this information is it unreasonable to conclude that we should immediately remove all tariffs from foreign goods and immediately dispose of all of our nuclear weapons.

  9. Thank you for this excellent post. If China feels hurt enough by Trump’s actions, do you think that China might start to use financial pressure? During the Suez Canal Crisis Ike effectively threatened the UK with destabilizing the pound. What if China boycotted a US bond auction and put pressure on the other countries to follow suit? Is a “high finance war” a realistic possibility if things got bad enough for China and other countries?

  10. For the analogy of a trade war as two people shooting holes in the bottom (raising tariffs) of the boat to stop the other person from doing the same, there is an assumption that both persons share the same risk. However, for US-China the US is like Michael Phelps and China is like your average swimmer. The risk of the boat sinking is not symmetrical. More explicitly, the US is less vulnerable to tariffs, since the US economy is mostly service related and less dependent on exports.

    1. What does the US government risk when it gambles with the property of its own citizens?

  11. Good luck. Problem is, global politics tends to help suppliers at the expense of consumers. Tariffs are just an example.

  12. Your extreme negotiating position ends at my property...

  13. @ David: you are correct 100% sir. Trade never prevented a war, and can create instability by causing Thucydides traps--as we have done with China. That was a completely unforced error--thanks largely to the genius advice of Libertarian economists based out of Chicago. The Pollyanna "strategy" was that they would "naturally" become nice once they realized the virtues of the Western World made available through Western technology. Instead, we have merely enriched and strengthened a totalitarian police state. After all, proper police states are very expensive to run. We have created a monster, and it does not love its creator.

  14. Sorry I can't attribute this excellent analogy

    Tariffs are like those college drinking games. How much you drink has little effect on your opponent but does have a significant affect on the severity of your own hangover.

  15. Professor:
    The impetus for imposing a tariff is the fact that we don’t live in an economy with a Job Guarantee as part of a Full Employment Fiscal policy. If we implemented a Job Guarantee, we wouldn’t need a tariff to keep folks working. But,

    • The Job Guarantee jobs would probably provide lower value-added service jobs compared to higher paying heavy industrial jobs.

    • Maintaining a high trade deficit is providing foreign folk a claim on our grandkids’ output. But why should they care who owns the capital (or has a claim on it) when they come into the world naked and ready to work. Why should they care who gets the output of their labor: a Chinese family or the rich guy in the town over. It doesn’t matter to them. (see blurb on Intergenerational Equity: http://mmt-inbulletpoints.blogspot.com/2018/04/the-kids-are-not-alright-truth-about.html )

    • A tariff is a tax on everybody else. Why should everybody subsidize the few industrial workers and companies in steel/aluminum?

    • It will also cause retaliation, and massive disruption in production/distribution with Canada and Mexico.

    • If someone wants to send us cheap stuff, we would be crazy not to take it.

    Right now we have the worst situation: high trade deficit, no Job Guarantee, resulting in low labor utilization –> unemployment/misery.

    The solution:

    – Job Guarantee (see the blurb: http://mmt-inbulletpoints.blogspot.com/2017/09/im-just-responding-to-various-economic.html ),

    – High public investment in higher education (with an emphasis on STEM and trade schools) to maximize the level of people output, and

    – Free Trade.

    Easy Peasy.


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