The truth about tarriffs

Last week, the White House announced tariffs on imported steel and aluminum of 25% and 10% respectively – a move that sparked global indignation and threats of a trade war. But tariffs are more common than you may imagine.

Almost every US president since Ronald Reagan has announced a tariff of one kind or another. Reagan, Clinton, GW Bush and Obama each announced a tariff of over a billion dollars during their terms of office, although several trade disputes were settled before the tariffs took effect.

The US has occasionally used tariffs rather than appealing to the World Trade Organisation (WTO), as the grievance process is incredibly lengthy and easy to manipulate to the point of being ineffective.

The tariff rates announced last week are relatively low by historical standards where 40 to 70% rates are more common. They take effect in 15 days, unless a country’s petition for exclusion is approved.

The obvious exceptions are Canada and Mexico who are in the process of negotiating an update of the North American Free Trade Agreement. Canada and Mexico account for 16% and 9% of US steel imports and 42% and 1% of aluminum imports respectively.

President Trump has already made use of tariffs, implementing them in January at the behest of individual US companies. Washing machine tariffs were imposed after Westinghouse appealed to the White House for help restricting washing machine imports from Korean competitors. Solar panel tariffs were announced after two solar companies - Suniva and SolarWorld - said cheap imported solar cells were putting their companies at risk.

Last week's steel and aluminum tariffs follow recommendations of a report issued after a nine-month investigation by the Department of Commerce under section 232 of the Trade expansion act of 1962 that references national security.

The report found that steel tariffs are a recurring item in the US as global steelmaking capacity is up 127% since 2000, while US steel employment has fallen by 35% with six oxygen furnaces and four electric furnaces closing since 1998. There have been 169 antidumping and countervailing duty orders in place on steel, with 25 more in process.

Part of the recurring friction occurs from the nature of the economic systems. US workers are employed by profit-seeking corporations which adjust the workforce based on efficiencies and demand for product. Excess workers are removed and join the unemployment rolls. In contrast, state-owned enterprises – which account for much of the world’s steel production - retain their workforces despite a lack of demand, and offload the excess product in other countries at discounts. 

Domestic implications for the US 

The direct implications of these tariffs would be to raise the cost of goods manufactured in the US with imported steel and aluminum. The commerce secretary gave the example of a $35,000 car that uses a ton of steel worth $700. The 25% tariff would add $175 to the cost of the car.

However, the real cost is in the potential for other countries to retaliate and start a trade war. Here we believe the administration's approach of implementing softer tariff rates and conditions than were initially expected will buy them some goodwill. 

Certainly, the European Union has a list of goods targeted for maximum political effect including Levi’s jeans (from Nancy Pelosi’s California), Harley-Davidson motorcycles (from Paul Ryan’s Wisconsin), and bourbon whiskey (from Mitch McConnell’s Kentucky).

The list of $3.5 billion in possible EU levies also includes US agriculture, steel and industrial products. That said, it is unclear if the EU is willing to fight a two-front war across both the English Channel and the Atlantic, given the relative softness of this week’s tariffs.

More tarrifs to come? 

There are heightened risks of additional tariffs in the future. Reciprocal taxes were highlighted in recent press conferences which would place import tariffs on countries of an equal amount to US goods. For example, if the Chinese charged a tariff of 25% on the import of US autos, the US would implement a mirror tax of 25% on imports of Chinese autos into the US.

In the past, these types of one-sided tariffs went unanswered as they fulfilled a social goal of modernising economies with western ideas and democratic ideals. We have all heard the false heuristic that no country with a McDonald’s has ever attacked another country with a McDonald’s. Given the measured responses so far by the Trump administration it is wrong to say the geopolitical benefits of free trade are no longer part of the trade calculus - but they are certainly under increased pressure. 

Ironically, the onerous WTO appeal process has stood in the way of more liberalised trade by suppressing appeals. Most countries accept it as fact that their citizens benefit from free trade, and this view is shared by many of those in the Trump administration. The nuance is that the US is not willing to accept being on the losing end of unfair trading practices.

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