the US and trade protection

tariffs and quotas

There are two main ways in which a country can shield a domestic industry from foreign competition.  Tariffs are taxes on imports, which make foreign goods more expensive for domestic purchasers.  Quotas are limits on the amount of a foreign good that can be imported over a specific time period.   The first controls the price of the foreign good, the second its availability.  Unless the quota is set at an wildly high level, tariffs and quotas have generally the same effect.

The main impact is that both allow domestic producers to raise prices.  This is very good for those working in the protected industry, which will have higher profits than before.  It’s at least mildly bad for everyone else, who will have fewer choices and must pay more for what they need.

infant industries/developing countries

There can be a legitimate place for trade protection.  A developing country, for example, may want to establish a textile manufacturing industry.  In the early days, the infant industry may not have the technical skill or economies of scale to compete with more established foreign competitors.  So the home country government may limit foreign competition for a period of time to give the new endeavor a chance to get on its feet.  Tariffs/quotas may also guard against predatory pricing by foreign firms that want to keep the local industry from ever developing into a competitor by “dumping” product at below production cost.

effects of protection

There are several:

–overall GDP growth slows; domestic users of imported goods or their domestic substitutes now pay higher prices and are most likely worse off.  This economic loss may be hard to trace back to the protection, making the tactic more attractive to elected officials

–economic energy shifts to the protected industries, which raise prices and become more profitable.  In many instances, however, the protected industry doesn’t modernize but simply collects the extra revenue and continues its outmoded/inefficient practices.  So it falls progressively further behind world standards, with it and domestic consumers ending up worse off in the long run vs. having had no protection.  The domestic auto/light truck industry in the US during the 1980s is a prime example.

–affected parties figure out how to deal with tariffs.  In the case of the 25% US tariff on light trucks imported into the US, protection forced foreign automakers to establish plants in the US to serve the market.  In the case of current US tariffs on imported aluminum and steel, on the other hand, manufacturers who use these inputs have cancelled US expansion plans and have begun to shift production to other countries.

–we can see the negative long-term effects of protectionism around the world in the ossified telecom industry in the EU, the pickup truck business in the US, the semi-bankrupt state-owned industries in China or the senescent keiretsu structure in Japan.  Generally speaking, except for infant industries in developing countries, the state planning that tariffs exemplify seems to have worked out pretty badly just about everywhere in the OECD.

retaliation

When a country alters the trade status quo by applying a tariff or import quotas, the affected countries most often respond in a tit-for-tat fashion.  The original tariff is intended to help a politically important industry in the home country.  The response, called retaliation, has the aim of hurting a politically important industry in the home country.  If it also helps an industry in the original target, fine;  if not, also fine.  In this sense, retaliation is different from the initial tariff.

After the US placed tariffs on imported steel and aluminum, for example, the EU has responded with a retaliatory tariff on imports of Harley Davidson motorcycles (an early supporter of Mr. Trump) made in the US.  China has placed a similar retaliatory tariff on US soybeans.  HOG has since announced plans to move manufacturing of Harleys for export to the EU from the US to Thailand.  Chinese soybean buyers have shifted to Brazilian output, a loss that US farmers worry may end up being permanent.

 

Next time:  the Trump tariff plans, as far as I can figure out, and stock market implications

 

 

 

 

 

trade, tariffs and Harley Davidson (HOG)

Modern economics has been founded in study of what caused the Great Depression of the 1930s, with an eye to preventing a recurrence of this devastating period.  We know very clearly that tariffs and quotas are, generally speaking, bad things.  They reduce overall economic activity in the countries that apply them.  Yes, politically favored industries do often get a benefit, but the cost to everybody else is many times larger.  We also know that the use of tariffs and quotas can snowball into a storm of retaliation and counter-retaliation that can do widespread damage for a long time.

My point is that it’s inconceivable that high-ranking public officials in Washington don’t know this.

 

HOG motorcycles are Baby Boomer counterculture icon.  The company’s traditional domestic male customer base is aging, however, and losing the strength and sense of balance required to operate these heavy machines.  At the same time, HOG has had difficulty in attracting younger customers, or women or minority groups to its offerings.  So it’s an economically more fragile firm, I think, than the consensus realizes.

HOG has been damaged to some degree by the Trump tariffs on aluminum and steel, which are important raw materials.  (As I understand them, the tariffs are ostensibly to address Chinese theft of US intellectual property, although they are being levied principally against Japan and the EU.  ???)

Completely predictably, the EU is retaliating against the tariffs.  In particular, it is levying its own 25% tariff on HOG motorcycles imported from the US.  This affects about 20% of Harley’s output.  HOG says the levy will cost it $100 million a year in lost income, implying that all of the EU-bound Harleys are now made in the US.  HOGs response is to shift production targeted for the EU to its overseas plants.  My guess is that this will take 1000+ jobs out of the US.

In contrast to the job loss from this one company, public reports indicate the total job gain from the steel/aluminum tariffs to be about 800 workers being recalled to previously idle steel/aluminum plants.

 

Mr. Trump’s response to the HOG announcement was to threaten punitive tariffs on any imports of foreign-made Harleys–a move that could threaten the viability of HOG’s network of around 700 independent dealerships.  7000 jobs at risk?

The stock market declined sharply on the day of the HOG announcement.  I think that’s because the HOG story is a shorthand illustration of how tariffs, and quotas, cause net losses to the country as a whole, although they may bring benefits to a politically favored few.

 

A second negative effect of trade protection is a long-term one.  My experience is that most often the protected industry, relieved of immediate competitive pressure, ceases to evolve.  After a few years, consumers become willing to pay the increased price to get a (better) imported product.  In my mind, General Motors is the poster child for this.

 

Stock market implications?  …avoid Industrials.  The obvious beneficiary of Washington’s ill-thought out trade policy is IT.  For the moment, however, I think that this group is expensive enough that Consumer Discretionary and Energy are better areas to pick through.