The trade war is getting nastier. Phase one began when Donald Trump whacked duties on imported steel and aluminium, and announced $50bn (£37.8bn) worth of tariffs on Chinese goods. Beijing retaliated dollar for dollar, while the EU targeted Levi’s jeans, bourbon whiskey and Harley-Davidson motorcycles.
Harley-Davidson responded by saying it would shift production of motorbikes for the EU market out of the US. A different president might have seen this as a warning of the collateral damage likely to be caused to the US economy from a trade war, but not this one.
In phase two, Trump says he will target $200bn of Chinese goods and is threatening to put a 20% duty on automotive imports from Europe. Both will inevitably provoke tit-for-tat retaliation.
The White House has already signalled what phase three of the programme will involve: new investment restrictions on Chinese firms in an attempt to stop intellectual property theft; and the US leaving the World Trade Organization on the grounds that the Geneva-based body was designed by the rest of the world to screw America.
Until now, the muted financial market response to Trump’s protectionism agenda has been explained by three beliefs: that he doesn’t really mean what he says and is using tariffs as a negotiating tool; that even if he does mean it, cooler heads in Washington will prevail; and that sooner or later the deleterious results of the trade policy will become so obvious that the president will think again.
Over the past few weeks, it has become harder to believe Trump is simply bluffing. Moreover, the group in Washington making the case for free trade appears to be dwindling in both numbers and influence. The people bending the president’s ear on trade are quite as committed to an America first approach as he is.
That suggests that the world will have to wait for Trump to look at the incoming economic data and realise trade wars are not as easy to win as he thinks. It could, though, be some time before the penny drops. Exports are booming and on some estimates will add a full percentage point to growth in the second quarter of 2018, a period when the US was expanding at an annual rate of around 4%. That will allow Trump to argue that his tough approach to trade is paying off.
There are reasons why the US economy is currently strong, but none of them have anything to do with tariffs on imports. In part, it is the lagged effect of a buoyant global economy in 2017; in part it is explained by tax cuts and the stimulus still being provided by only gently rising interest rates. Mickey Levy, chief US economist for Berenberg, says Trump’s deregulation agenda has been a factor in boosting America’s underlying growth rate.
Evidence from Barack Obama’s presidency shows how protectionist policies can backfire. Back in September 2009, when unemployment stood at 10% and the US was only just out of recession, Obama was persuaded to put tariffs on imported Chinese tyres. These were imposed over three years on a sliding scale: 55% in year one, 45% in year two and 35% in year three.
In 2012, Obama used his state of the union address to boast that the tariffs had stopped the surge in Chinese tyre imports and safeguarded 1,000 jobs. Research by the Petersen Institute, a leading Washington think tank, found that Obama’s boast was only partly true.
Using what it called “very generous assumptions”, Petersen said Obama’s intervention saved a maximum of 1,200 jobs. But US buyers of cars and light trucks paid higher prices for their tyres, which meant they had less to spend on other things. The total cost to US consumers was around $1.1bn in 2011, which meant the cost of saving a US tyre manufacturing job was at least $900,000 in that year.
What’s more, the blow to consumer spending power meant the loss of 3,731 jobs in the retail sector, leaving a net loss of about 2,500 jobs.
That experience helps explain why the Chinese tyre tariffs were allowed to expire in 2012. It is also why economists think the current protectionist measures will have a similar – only more pronounced – effect. Gregory Daco, head of US economics for the consultancy firm Oxford Economics, says that if Trump goes ahead with his 20% tariff on EU automotive imports it would reduce US growth by 0.1% in 2019 and 0.2% in 2020, and lead to net job losses of 100,000.
“Importantly, given the large supply side chain multipliers in the automotive sector, and the knock-on effects from increased business uncertainty, the total shock to the economy could be twice as large,” Daco adds.
The EU and China will also be hurt. Given their reliance on exports, they may suffer even more than the US does. That, though, is likely to push up the value of the dollar on the world’s currency markets, which will make US exports more expensive.
But for a while, the US economy is in a sweet spot. Rising interest rates have yet to bite, tax cuts are boosting spending power and inflation is bang on target. It will be at least a year, perhaps a bit longer, before the world’s biggest economy slows significantly and Trump can do a lot of damage in that time. No question, the deranged threat to quit the WTO would herald a return to the 1930s.
There is a final line of defence. Trump would be forced to think again if financial markets stopped being so relaxed about his trade agenda. But Wall Street needs to wake up – and soon.