In June of 1930 President Hoover signed the Smoot-Hawley Act. This Act imposed steep tariffs on over 20,000 different goods that Americans imported from other countries. As of its time, it was one of the largest tax increases in history. It was also one of the driving factors that turned a bad economic recession into the Great Depression.
The Smoot-Hawley fiasco reaffirmed the lessons taught by Adam Smith and David Ricardo back in the late 18th and early 19th centuries – global economic trade promotes economic prosperity; tariffs and other obstructions to international trade make us poorer. And, despite the near universal agreement that huge tariff increases harm the economy, the Trump Administration has failed to heed history’s lessons. It seems we are destined to learn these lessons again.
Just as in the 1930s, the U.S. is imposing tariffs on imports that Americans regularly consume. Since these tariffs will make Americans poorer and the U.S. economy less competitive, these trade barriers will ultimately harm Americans more than Canadians, Europeans, or Chinese.
Despite this economic truism, other countries are retaliating by imposing their own tariffs on U.S. exports. Of course, when the Chinese, Canadians, and Europeans impose tariffs on U.S. exports they are harming their citizens more than the Americans who these retaliatory tariffs are supposed to punish.
For example, when Canada responds to the U.S. tariffs on steel by increasing its tariffs on washing machines, Canadians suffer the most because now, Canadians who used to sell steel to customers in the U.S. lost business and Canadians who want to buy US made washing machines have to spend more of their hard-earned money to purchase washing machines as well. It is a lose-lose proposition. The ideal response from Europe, Canada, Mexico, and China to the anti-trade U.S. tariffs should be to do nothing.
Politics often trump good economics, and politically, countries cannot help but retaliate in the vein hope that their punitive tariffs will ultimately lead to lower tariffs for all. This process of tariffs begetting retaliatory tariffs throughout the 1930s helped sustain the economic malaise of the Great Depression, and it foreshadows our economic fate if this burgeoning global trade war continues to fester.
Yet, this is where we find ourselves. China has responded to the hundreds of billions of dollars in tariffs that the U.S. has imposed on Chinese exports to the U.S., by imposing equivalent tariffs on U.S. exports to China. The U.S. is now considering tariffs on hundreds of billions of imports from China in response to China’s tariffs, which were, of course, in response to the original US tariffs.
Today’s emerging global trade war will likely have even worse consequences than the trade war that plagued the global economy of the 1930s. Global trade, total exports plus imports, was equal to 55 percent of total global economic output as of 2016. Over a half century ago it was only around 25 percent.
These data are indicative of how much more interconnected the global economy has become. Businesses rely upon global supply chains to produce high quality goods and services at the lowest possible prices. Further, the global capital markets improve entrepreneurs’ access to the resources they need to innovate regardless of their location, and consumers have access to a much wider array of high-quality, low-priced goods. Since these benefits from our interconnected global economy are greater today than back in the 1930s, we have even more to lose from the emerging global trade war.
If not reversed, then the growing trade tensions risk an economic recession as the pro-growth benefits from the corporate tax reforms and deregulation will be overwhelmed by these anti-growth protectionist forces.
Therefore, the right next policy step is simple. The U.S. should repeal all recently introduced tariffs and reaffirm its commitment to the global trading system. Even better, as a mea culpa, the Trump Administration should unilaterally cut all tariffs. Re-engaging in the Trans-Pacific Partnership (TPP) and committing to the benefits created by NAFTA would also help the U.S. demonstrate that we are ready to lead the global economy once again.
Unfortunately, such a policy change is just wishful thinking. Consequently, we appear to be doomed to relearn a very costly lesson.