Saturday, August 11, 2018

Trade Wars

Donald Trump thinks like a businessman, when it comes to trade. One wins at the expense of another. This struggle between direct competitors is real. If another hotel chain lures away some regular patrons of Trump Hotel by undercutting the room rate, Trump Hotel loses. The other hotel chains win. If one building contractor undercuts another to get the contract to build Trump Towers, the former wins and the latter loses.

However, most trade does not work like that. Most other businesses are not direct competitors, but are suppliers and customers of each other. Trade between businesses that are suppliers and customers of each other benefit the entire community (while the few that are direct competitors win and lose against each other).

Donald Trump seems to take his win-lose business experience over into international trade. He assumes that if China has benefited, the US must have suffered. Consequently, he assumes that if he can make China lose, America will win again. This flawed thinking.

International trade is not a zero-sum game. All nations can benefit from an expansion of trade. When trade expands, a few suffer, but most people get richer. Expanded trade means bigger markets with more competition, with more specialisation, more choices, gains from scale, more innovation and more investment.

Businesses in different nations are good at doing different things. Nations have different resources, knowledge and skills. Trade between nations usually makes people better off.

It is true that the people of China who have moved from rural areas to work in manufacturing have benefited hugely from more open trade. However, many American businesses have made immense profits by getting their manufacturing done in China. People employed in dying American industries have suffered, but most Americans have benefited by being able to buy cheap consumer goods imported from China (phones and televisions) that they could not afford if they had to be manufactured in the United States.

Donald Trump assumes that America can win a trade war. Unfortunately, no nation wins a trade war. The problem is that all nations export and import. One nation’s imports are another nation’s imports. If a nation’s exports are reduced by trade sanctions, its capacity to import is goods and services is also constrained. This means that any change that limits a nation's exports also limits its ability to pay for the exports of other nations. Some smaller nations may be affected worse than others.

The American companies that are protected from competition by tariffs on imports will benefit. Those that have invested in manufacturing capacity overseas might lose. Many Americans will be worse off because they have to buy more than they consume.

Donald Trump believes that the US can win a trade war. That is mistaken. Everyone nation loses in a trade war. The best that Trump can hope for is to suffer less than other nations. Given that the US is a large market and depends on exports less than most nations, that could be the result.

But the fly in the ointment is that the US is running a massive budget deficit. In the past,, it has been able to fund this deficit by borrowing (selling treasury bills) from trading nations that needed US dollars for reserves. Most this funding from nations that Trump is fighting the trade war against. If a trade war goes too far, this source of cheap funding might disappear, with serious consequences. The US might lose more in a trade war than it expects./p>

The leaders of the EU, US, China and Canada are incredibly stubborn. I do not see any of them backing down. They are more likely to up the ante and get into a tit for tat struggle by the raising tariffs and imposing financial penalties. Each one hoping that one more hit will win if for them. This is what I call a trade war./p>

In a world that has not recovered from the GFC, but just papered over the cracks, that would be high risk. The US would be hurt the least, but it would be painful for the world.

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