In the News: Tariffs and the US Economy

With all of the discussion in the news about tariffs on Chinese goods, let’s dive a little deeper into tariffs. Do they work? Or are they just in additional tax on the American taxpayers? Do they save American jobs? These are some of the questions I will try I will try to answer.

The Basics of Tariffs

Before discussing the effect which tariffs could have on the US economy, let’s talk about the basic concept and history of tariffs.

Tariffs are a tax imposed on imports that are paid by the consumer. They have historically been used in the US as both a source of funding for the federal government and a tool to increase employment domestically.

Tariffs in the United States

One of the first acts of US Congress ever enacted was the Tariff Act of 1789. Despite some opposition, the legislation was passed.

Most economists agree that the tariff successfully allowed the US manufacturing industry to grow, as tariff revenue funded much of the federal government throughout the 19th century.

As a result of the industrial explosion of the 19th century combined with the creation of the federal income tax via the 16th Amendment in 1913, the federal government no longer had to rely on tariffs as the primary source of funding.

Following the Stock Market Crash of 1929, President Hoover signed the Smoot-Hawley Act which raised import taxes by an average of 20%, hoping to protect American farmers.

However, many European countries responded with tariffs of their own, resulting in a reduction of trade that carried over into the Great Depression.

It was not until post-WWII that tariffs in the US were decreased substantially. Since that time, free trade has been largely favored by the United States in regard to their international trade policies.

How do they affect the taxpayer?

For the American taxpayer, tariffs at the most basic level increase the price of imported goods.

The net effect of tariffs can be difficult to accurately measure as consumer markets can increase or decrease based of a much wider variety of factors.

However, we can say that when a tariff is put into effect, many times other countries consider imposing a tariff of their own as many European nations did after President Hoover passed the Smoot-Hawley Act.

Sometimes these tariffs work in American taxpayers favor, as previous manufacturing jobs are moved into the US. Other times, manufacturing jobs which are not transferrable force the taxpayer to pay higher prices for goods.

Do they work?

There is much debate about the effectiveness of tariffs on the US economy over time.  Economic commentators like Pat Buchanan argue that the tariffs in the 19th century played a key role in the United States’ transition from agriculture to industrialization.

Supporters of tariffs often will also point to the Infant Industry Argument, which says that small industries need to be protected by tariffs in order to develop to take advantage of potential economies of scale.

The common counter argument against the Infant Industry Argument is that there is no guarantee that the tariff can protect the infant industry in the long run once it loses its ‘infant’ status.

In addition, it is difficult to accurately and consistently measure the direct impact tariffs have on industries’ markets, as free markets are influenced by more than just government fiscal policy.

Bringing Jobs back to America

By increasing the cost of foreign goods, tariffs incentivize manufacturers to keep as much of their production process local as possible.

For example, the steel industry is over capacitated as China’s level of production is high enough that they are able to set the international price for the steel market.

By issuing a tariff on Chinese imports, it could force them to lower their targeted price, which can give American steel manufacturers the option to buy different or ready-made products directly.

Improving US Trade Agreements

In the 1970’s, the United States had agreed to import over 3500 products from 100 then-developing countries’ economies as part of the US Generalized System of Preferences (GSP) program.

Earlier this month, President Trump removed India and Turkey from the GSP as the two nations’ economies have become greater than the program’s eligibility requirements.

By issuing tariffs and removing countries from the GSP, the United States could purchase goods at a fairer price with these two nations and chip away at the trade deficit.

Creating Leverage with China

Another way which the US could benefit from issuing tariffs on Chinese imports comes in the form of cybersecurity.

Chinese officials have stated that the United States’ threat of a tariff could push President Xi Jinping to commit to buying more US made goods and improving the security of Intellectual Property Rights.

The theft of intellectual property is an issue that has been ongoing between the US and China for years, and is especially important today as new markets are being created with the growing use of technology (See my article on 3D Printing).

Since the large majority of Chinese industry is influenced or outright controlled by the government, President Xi Jinping would be more likely to agree to a deal with the US on tariffs and cybersecurity standards rather than reforming their state-run industries.

Counter Arguments to Issuing Tariffs

While tariffs do have potential to allow the US to grow in markets which they hold a comparative advantage, critics point out there is negative potential as well.

For example, other countries can still issue their own tariffs in response, decreasing the international level of trade as a whole.

Others argue that the reduction of international trade will simultaneously increase the price and decrease the quality of goods, as there is less competition in the market.

It’s a complicated issue of American economic policy, and ultimately government leaders have to consider the political and social aspects of a tariff in addition to the economic outcome. There is no doubt that tariffs will be an important issue in the upcoming 2020 US Presidential elections.

Sources Used:

Tariffs ‘absolutely will’ bring back jobs to America: Steel CEO

Easier for China to face tariffs than bend to U.S. pressure

A Brief History of Tariffs in the United States and the Dangers of their Use Today

The Disadvantages of Tariffs & Quotas