Trade deficits don’t matter but tariffs sure do

The Thinker by Rodin

A couple of posts ago I pointed out that trade deficits don’t really matter. This is because trade deficits merely report the difference of the value of goods exchanged between countries. A trade deficit with China demonstrates that in general we get better bargains trading with companies in China than from buying them internally or from other countries.

Tariffs on the other hand do matter, a lot. Over the weekend Donald Trump, our “very stable genius” president demonstrated how profoundly ignorant he was on how tariffs work. Trump stated that tariffs are helping to pay down the national debt.

In the sense that higher taxes make deficits lower if spending is kept constant, Trump is right. But Trump apparently thinks it’s foreign countries that are paying these tariffs, like before a freighter from China unloads its cargo in Los Angeles the government of China wires the tariff to the United States Treasury. That’s not how it works at all. Chinese manufacturers don’t pay a tariff to bring their goods into our country either.

So who is paying? You: the American consumer. Tariffs amount to tax increases, but these tax increases are sneaky. Since you don’t buy directly from companies in China, you don’t see a tariff added to your bill of sale. But when a company you shop at does, like Walmart, they send a check to the U.S. treasury for the amount of the tariff.

Companies can absorb the tariff. Being profit-making though they will almost always pass the cost on to you by raising their prices. We saw this recently when Coke announced it was raising prices, because its cost for imported aluminum used to make its cans went up.

The Coca Cola Company of course can shop around elsewhere for aluminum. It looks like there is no better deal. The kind of finished aluminum they use is either not made in the USA or is cheaper to buy from China in spite of the tariffs. This is true of lots of products in our modern economy. One way for companies to make profits is to specialize. However, the tariff system seems to assume we principally trade commodities like oil and wheat, not rolls of aluminum with the exact thickness Coke needs for its soft drink cans.

Tariffs thus amount to sneaky indirect tax increases. Unfortunately, this is just the beginning of their detrimental effect on our economy. When we have to pay more for the same goods and services, this is inflation. And inflation from tariffs is already showing up. In June 2018, prices rose .4% from May 2018, largely due to tariffs. If this continues at this rate for the next twelve months, prices will be 4.8% higher annually. This is a significant increase in inflation compared to rates we are used to of 2% per year or less. It’s likelier though that the effect of tariffs is just beginning, and that soon inflation in June will seem like one of our better months.

As long as wages keep up with inflation, then perhaps inflation doesn’t matter. Our unemployment rate may be 3.9%, but wage growth has been anemic at best. In fact, most American workers have lost money because wage growth has not kept up with inflation. Unless Americans borrow money to make up the difference, which unfortunately they are doing at record rates, then without commensurate increases in wages they will consume less, dragging down the economy.

So it’s pretty clear that the real effect of tariffs is to stifle overall economic growth. Strict tariffs caused the Great Depression. While they allowed us to do more buying local, retaliatory tariffs as we are seeing now also made it hard to export our goods. With fewer buying our products, commodity prices for things we do make tend to collapse. So when the government charges tariffs, it is playing a very dangerous game. I’d like to think our administration knows what it’s doing, but Trump’s remarks this weekend show he fundamentally misunderstands how tariffs work. Apparently his supporters don’t understand either, as they roared their approval.

In any event, with recent tax cuts that benefit primarily the very wealthy, these modest tariffs will do little to boost tax revenues; the Post article puts the effect at .1%. But even the Post article understates the true cost of tariffs. Here are some of the other direct effects:

  • It increases government spending for social security, government pensions and many entitlements that are tied to the cost of living
  • It increases the cost of medical care, including Medicare, Medicaid and health care for veterans by pushing up prices for imported goods and services like certain medicines
  • It increases the cost of borrowing, as inflation tends to raise interest rates, which means the U.S. Treasury will have to increase interest rates to attract investors
  • Subsidies already announced will cost the government, for example the $12 billion the Trump Administration wants to give farmers to offset the effects of its tariffs

And then there are the indirect costs, which include:

  • Higher prices and inflation in general
  • Reduced employment in sectors affected by counter-tariffs
  • Lower profits as fewer goods and services are bought and sold
  • Likely increases in unemployment

Try as it might, the Trump Administration’s tariffs policies won’t do much more than partially offset tariffs’ downsides. It is likely to raise prices, reduce employment, feed inflation and reduce economic activity. Quite frankly, these tariffs are a disastrous policy.

But don’t take my world for it. The wreckage is already unfolding. It’s only going to get worse and may hit a crescendo around the midterms.

Do trade deficits really matter?

The Thinker by Rodin

So we are having trade wars at the moment. Trump started all of them, first with a 30% tariff on solar panels manufactured in China but then on steel imports. It expanded into tariffs against Canada, Mexico, the European Union and more tariffs on China. Predictably these countries responded with counter-tariffs designed to give Trump’s biggest supporters a case of indigestion. And it’s working. Farming is typically a low margin business. With less demand, prices drop. With fewer crops being sold it is quickly making agriculture here unprofitable. Trump says that tariff wars are easy wins. That wasn’t the case in 1929 when they caused a global depression.

Trump acts like trade deficits really matter. Unquestionably they do matter to some businesses and people, i.e. those affected by them. After NAFTA was passed we lost a lot of our industrial base simply because countries like Mexico could manufacture stuff a lot cheaper than we could. To compete though in many ways we have upped our game. We are much more of a service economy now and we design leading edge stuff that is often manufactured elsewhere. Aside from Apple products, there is also stuff like my CPAP machine. This work is more specialized and the margins must be higher.

I don’t recall a time when the United States was not carrying a trade deficit. Perhaps we weren’t back in the 60s and 70s, but I was much younger then. And there are scattered months here and there when we do export more than we import. We have trade surpluses with some countries, like Canada. It’s a mystery then why Trump targeted that country. Mostly though it’s the other way around. While some sectors have suffered from all this free trade, I think overall it’s been a benefit.

One big benefit has been that trade has kept prices and thus inflation low. As long as these tariffs are in place, we are likely to see creeping inflation again. And Americans love imports. Low prices have helped us live beyond our means and our stagnant wages. It’s how companies like Walmart stay in business. Moreover, these imports increase competition and that too tends to lower prices. In many cases, the best quality products are available overseas. Take hybrid cars, for example. Yesterday I was in a neighbor’s Toyota Prius Prime and marveling at its engineering. This model may have been manufactured in the United States, but it’s an amazing value for the money. Since he too has solar panels on his house, most of the time he is driving using its electric motor. He’s getting very close to living carbon free, thanks to hybrids built and perfected overseas.

We have a choice of where we buy things. Most likely my next car will also be a foreign hybrid or fully electric car built or designed overseas. If I buy a Toyota Prius built in Japan and pay $30,000 for the privilege, while it causes a trade imbalance, it’s not like I didn’t get anything for my money. I get a great value in a car that gets 51mpg when it’s not running in fully electric mode. The effect of buying a foreign car is that some Americans (presumably) did not have a part in its design and manufacturing. Maybe that’s bad for the economy if we presume that whoever would have been building the car here in the states wasn’t doing work of similar or greater value. I’m not an economist but I’m not sure we can credibly make that claim.

In the case of hybrids and electric cars, American auto manufacturers are upping their game. In one case (Tesla) are providing a superior (albeit much more expensive) alternative. The Chevy Volt and Bolt are two other examples, although their cost is subsidized by generous federal tax credits. Tariffs on cars manufactured overseas do make our domestic versions more competitive, but only by raising foreign car prices. It doesn’t actually save buyers any money; in fact we pay a double penalty for tariffs: higher costs and potentially less competition.

There is certainly a convincing case to be made that China trades unfairly. To gain market share, it heavily subsidizes certain sectors like its solar and shipping sectors. It often doesn’t respect international copyright laws. In most cases though foreign products are cheaper because they can manufacture them for less. Often these industries are low profit. It’s unclear why we would want to compete in these low profit industries when doing so probably won’t give us a better lifestyle. Tariffs are at best a poor way for addressing these issues. They may work, but history is generally against you. Leveraging them in a large way like we are doing now is very dangerous, as the Great Depression attests.

In any event, the United States is not blameless. Even before these latest rounds of tariffs, we have been subsidizing many of our own industries through longstanding tariffs, including our sugar and peanut businesses. Free trade is one of these ideals that are rarely fully realized. When it is, someone is usually paying a price. Americans pay much more for sugar and peanuts than is necessary, and now we’re paying more for steel and solar panels too.

The evidence doesn’t seem to prove that trade deficits cause a country’s decline. In some ways they can demonstrate resilience. The strong U.S. dollar shows that we are a strong country in spite of these trade deficits. To me, trade deficits suggest that our knowledge economy is our real strength. Anything that we can do to continue to foster that, for example by allowing more technical people to acquire H1-B visas, should be a good use of government. On commodities like agriculture, we are highly efficient. In spite of the burgeoning world population, we can feed much of the world. Perhaps we should be strategically reducing the amount of farmland under cultivation to keep farming profitable.

I doubt that tariffs are the instrument we need. And I really am skeptical that trade deficits matter at all.

In the midst of chaos, plenty of reasons to be hopeful about the midterms

The Thinker by Rodin

In my last post, I intimated that Trump Disorientation Disorder was striking close to home, affecting my wife’s mental health. I’d like to say she’s doing better but at least she’s getting treatment. I doubt she is alone. Every week in this presidency feels like being on a roller coaster in free fall, but some weeks are freakier than others.

This week certainly was one of them. Trump’s cruel policy of separating children from families at the border grew slightly less evil when he decided to rescind this policy, a policy he said could not be rescinded because somehow it was all the Democrats fault. To kind of cap off a freaky week with a bit of humor was this nugget from a Washington Post story. Apparently our “stable genius” president doesn’t know that only Congress can change immigration law. He thought he could do it by decree.

A cascade of awful news is not great politics. Trump apparently thinks that being awful pays political dividends. The dividend he is looking for is to turn out his base in the midterms. He may or may not succeed in doing so. But he can’t win by just turning out his base. He won the presidency by turning out coalitions, including a lot of Obama voters who didn’t like Hillary. Also, a presidential election is much different than a midterm election. In a presidential election, you can win while losing the popular vote, which was his case. In a midterm the playing field is more even. Senators are elected or reelected based on the popular vote. Gerrymandered districts make it harder for incumbents to lose reelection. A recent Supreme Court ruling suggests at least for the moment the court sees no reason to declare these crazily drawn districts illegal. In any event, happy people rarely have motivation to go to the polls, while unhappy people have plenty of incentive.

So the more Trump piles on the unhappiness, the more motivated its victims have to go to the polls. Moreover, Republicans are doubling down on deeply their unpopular policies. Just this week the House narrowly passed a bill that would cut food stamp benefits. It’s unclear if this bill will become law, but we do know that Trump has initiated a wholly unnecessary trade war that’s already affecting blue-collar Trump voters and is likely to affect many more of them as the midterm approaches. Indeed, countries experiencing American sanctions have created targeted sanctions narrowly focused to rile Trump’s prime constituencies.

Republicans in Congress sure have noticed. This is a party of free traders but their complaints to Trump on these tariffs are falling on deaf ears. It’s one thing to target policies affecting people that Republicans don’t like, such as immigrants. It’s another thing entirely for them to affect their own voters.

But it won’t be just them of course. It will be lots of us. Tariffs raise prices while reducing competition. To some extent it’s affected my purchasing decisions too. We are considering adding some solar panels to our system, but panels are now subject to steep tariffs. With no chronic need to buy them, it’s easier to wait until tariffs disappear. The price of panels should drop anyhow but there’s no reason for us to pay a premium now. It’s not good for solar companies however, which are already suffering and shedding jobs. Most of these jobs are steady blue-collar jobs too, likely worked by a lot of people who voted largely for Trump.

If Trump truly wanted to help his base, he would not have put up this tariff in the first place. Solar jobs have been climbing steadily and are almost the ideal blue-collar jobs of the future. As prices decrease, demand for solar will only increase, plus will be replacing a dying coal industry with clean solar power. It’s a no-lose proposition.

This of course is only one of many ways Trump is pissing off his own voters. He and the Republican congress still seem intent on destroying the Affordable Care Act, despite its popularity. He said he was going to replace it with something better that costs less, but hasn’t. So premiums will be on the rise right before the election instead. People are already losing health insurance and rising premiums will price many out of the market too. The lack of a penalty to have health insurance also pushes up premiums. Health care availability and affordability is the top issue right now on voters’ minds. In short, their policy is deeply counterproductive to staying in office.

Trump of course ran on a platform that in many ways sounded quite progressive. He complained about big business and the elites. Once in office though he populated his administration with these very people. Trump’s core voters won’t give up on him, but he will peel away plenty of marginal voters. From special elections over the last two years, it’s clear that voters are voting their pocketbooks, which explains why Democrats have been winning so many of them.

If nothing else, tariffs will have an inflationary effect. We’re likely to see the unemployment rate tick up between now and the election too, most likely due to Trump’s tariffs. Those who are victims may find themselves with less of a safety net to fall back on: less in the way of food stamp benefits and unless their state has expanded Medicaid no health insurance too. These factors will lead to economic uncertainty. It’s hard to say if it will cause a financial crisis before the election, but it certainly might. In any event, despite the tight labor market, most employed Americans have actually lost income during this administration. And since fewer than half of employed Americans have a 401K or own any stocks, they are not profiting from upturns in the stock market.

To me this suggests 2018 will be a wave election that will swing the country decidedly in a blue direction. There are few signs that Republicans can point to that are to their advantage. It’s sure not their immigration policy, which is deeply loathed by all sides. But of course it will be pocketbook issues that will be motivating voters the most, and voters will have plenty of motivation to vote in their best interests.

The perfect storm

The Thinker by Rodin

In case you hadn’t noticed, Donald Trump suffers from Attention Deficit Disorder, a side effect of his Narcissistic Personality Disorder. I’d say give the man some Ritalin but in many ways his ADD simply helps speed up his unraveling. The more I watch the man, the more convinced I am that he subconsciously wants to fail. He’s in way over his head. He can’t acknowledge it to himself so he spends a lot of time doing stupid stuff.

Stupid stuff like spending Easter tweeting that there will be no DACA deal and he’s going to blow up NAFTA if he doesn’t get his border wall. This is likely to blow over rather than blow up because when you have ADD by definition you have a short attention span. So it’s likely a week from now he’ll have totally forgotten he tweeted this stuff. In any event, if you are hearing a chorus of “ho hums” coming from Capitol Hill, it’s because they’ve seen stuff like this so many times that it’s becoming rote. Even the press is starting to move these presidential tweets below the fold. Hopefully they’ll move to page A10 pretty soon.

It’s obvious Trump is not a politician, which is presumably what his supporters like about him. When he tries to schmooze it comes across as wholly inauthentic. In any case, politicians quickly learn if you want to get stuff done you have to do a lot of schmoozing. That’s because power in the government is decentralized and not even Trump can change that, although he is trying. For now at least if he wants to get something major done, it has to be done through Congress, not executive actions.

It’s likely when you were growing up if your parents scolded you it did not enamor you toward them. It works the same way in Congress, which is why so little of Trump’s agenda has gotten passed despite having a Republican congress. In some ways Congress is digging in their heels. They’ve pretty much blocked Trump’s outreach to Russia and passed veto-proof legislation to tighten Russian sanctions. Congress has trumped Trump, and even Trump has seen the writing on the wall by expelling sixty Russian diplomats who were likely spies.

Trump obviously didn’t read the FY18 spending bill even though congressional leaders met with him to get his agreement on it before moving it through Congress. When it was sent for his signature he rebelled then reluctantly gave in. The legislation funds election system reforms, targets Russian hacking of our elections and hits many of the items on the Democratic Party’s wish list, such as major increases in funds for domestic programs. The CDC is allowed to research the effects of guns on public health again. Who would have thought with Republicans supposedly controlling government?

In any event, if Trump actually makes a stand on his border wall, the proper thing to do is to stand up to him. That’s what you do with bullies and arguably Congress is doing a pretty good job of it already. Granted, there are some exceptions. The Republican congress finds it in their interest to give the White House a pass on its general corruption. Mostly the Congressional leadership is well aware of his ADD and uses strategies like the spending bill to work around him.

Trump can renegotiate NAFTA and take many actions, but he can’t cancel it. His leverage on DACA is mainly of his own choosing. It won’t take for too many DACA recipients to actually be deported before he learns how counterproductive it will be. And these measures certainly won’t spur Congress to build a border wall, or convince Mexico to pay for it, mainly because he can’t really block these imports from Mexico by himself. He has to convince Congress to change the law. As long as he is yelling at Congress, it ain’t happening.

All this is leading toward the midterms on November 6, which is likely to return Democrats to the majority in Congress. It will still be a tough hurdle for Democrats, given the extreme gerrymandering nationwide and further voter suppression efforts. But Trump is doing pretty much everything possible to empower Democrats back into the majority. Just today I read that China is imposing its own tariffs against selective U.S. imports in response to recent U.S. tariffs that Trump authorized. This dropped the DJIA some 450 more points, putting all stock indexes in the negatives for the year. We are a hare’s breath away from correction territory. The downturn is almost exclusively due to the tariffs Trump has put in place, which will have the obvious result of restraining trade and thus reducing economic growth. These Chinese tariffs are specifically chosen to hurt his base of support. European and other countries are starting to do likewise. Not much can convince Republicans to vote for Democrats, but policies that hit them in their own pocketbook can bleed off a number of wavering supporters.

Underlying all this chaos is the epic turnover among White House staff. Trump can’t even find a new lawyer, as his brand has become toxic. Administration is missing from the so-called Trump administration. What his bullying has caused is an epic reaction, causing people to appreciate democracy and sound governance. It is spurring people (mostly women) to run for office. By some estimates, the recent March for our Lives was the biggest march ever in Washington. Trump has engaged young people in particular against him. This hastens not just his disempowerment, but also the end of Republican governance.

Leading perhaps to the perfect storm on November 6. With no sign that Trump will change tactics and every indication that he will double-double down, it’s not too hard a prediction to make.