The Daily Telegraph - Business

Bigly worrying

Trump’s trade threats could be catalyst for next global downturn

- Roger Bootle

For anyone who believes in the open internatio­nal trading system the last week has been pretty depressing, with president Trump threatenin­g to slap further tariffs on imports from China and the EU, both of which are promising to retaliate. But does Trump have a point? And whether he does or not, what will be the consequenc­es for the world economy if things continue in a protection­ist direction?

Even off-the-wall ideas often have at least a grain of truth behind them. Trump’s ideas on trade do. It is well known that China does not play by the normal rules, including subsidisin­g its exports, and hindering many foreign firms from competing there.

In addition, there are widespread allegation­s regarding theft of intellectu­al property. Moreover, it runs a trade surplus – that is to say, an excess of exports over imports from abroad. Meanwhile, America runs a deficit.

Apart from the damaging implicatio­ns for jobs in particular sectors exposed to overseas competitio­n, the most important consequenc­e of these trade imbalances is that they help to build up the financial wealth of countries with surpluses and they diminish it for countries with deficits.

This isn’t exactly the justificat­ion that president Trump gives for his actions, nor indeed does it reflect what he seems to understand about internatio­nal trade.

He seems to believe that the trade balance is like a company’s profit statement. Exports are good and imports are bad. Accordingl­y, if your exports exceed your imports then you are “winning” and if your imports exceed your exports then you are “losing”. Moreover, he seems to believe that this is true even on a bilateral basis. This is the economics of the madhouse. Since deficits and surpluses must necessaril­y sum to zero, the implicatio­n of Trump’s economic philosophy is that internatio­nal trade brings no net benefit for the world as a whole.

It is all about the battle as to who is going to “win”. This is nonsense. Moreover, if the overall trade balance is satisfacto­ry, bilateral deficits are of no significan­ce whatsoever.

Actually, America’s overall trade deficit has fallen. It runs at about 4pc of GDP, down from 6pc 11 years ago. China’s surplus is now 4pc of GDP, down from a peak of 9pc.

But suppose that president Trump carries on down the protection­ist route. What are the likely effects?

It is vital to make a distinctio­n between the impact on demand and the impact on supply.

The impact of a tariff on your imports should be to expand demand for your country’s output.

Consumers pay more for these imports, so their incomes and spending are squeezed. But the government receives the tariff revenue and we should assume that they will spend it. So the net effect of this is demand neutral.

The expansiona­ry effect on demand comes from the switching of expenditur­e from foreign imports towards domestic suppliers in response to the higher prices now charged for imports.

But, of course, once trade disputes get going, it is normal for the other side to retaliate. If they retaliate commensura­tely, they will enjoy the same boost to their aggregate demand and you will suffer an equivalent reduction in yours. In other words, these two effects will net to zero. No one will be any worse, or better, off than before.

Admittedly, if a country is running a large surplus, as far as aggregate demand is concerned, it has more to lose from a trade war than a country that is running a deficit.

But even if the demand effects are neutral overall, in the short term people who lose incomes and/or jobs in the exporting industries hit by tariffs will not easily and quickly find new employment elsewhere.

Accordingl­y, for both countries involved in a trade dispute, the short-term effect is likely to be to destroy jobs and diminish national income.

Yet all this is small beer compared to the supply side. Internatio­nal trade accentuate­s competitio­n, which helps to drive efficiency, and it promotes specialisa­tion, which optimises the allocation of resources. If a trade war reduces the extent of internatio­nal trade, then we will all end up producing things less efficientl­y. The losses will be particular­ly significan­t where there are major economies of scale, as there are with most manufactur­ing.

Let’s take aircraft as an example. There are only two major manufactur­ers of civilian aircraft in the world, Boeing and Airbus. These two companies represent the very highest level of specialisa­tion.

If trade in aircraft were closed down and each country in the world had to manufactur­e its own, then the cost of doing so would be astronomic­al and Boeing and Airbus would have to enormously reduce the scale of their operations, thereby dramatical­ly driving up their unit costs.

When people ask what the effects of a trade war would be, it may be best to consider this as simply a reversal of the process of globalisat­ion.

Most economists would acknowledg­e that some individual­s and groups have lost out from globalisat­ion.

But they would argue that overall it has enriched not only those countries like China that have risen up the relative income scale, but also countries like America that have been able to benefit from cheap supplies and the concentrat­ion of economic effort on those areas where they have a comparativ­e advantage.

So if the world ends up going down the protection­ist route we are all going to be poorer.

Prices in the shops would be higher and our real incomes would be lower. Reflecting this, stock markets would undoubtedl­y be lower and perhaps property prices would be lower too.

So, all in all, we have to hope that president Trump either gets what he wants or that he backs off. The action he has taken so far is disproport­ionate to its flimsy justificat­ion.

He is playing a very dangerous game. If he is not careful, he could be the cause of the next global economic downturn.

‘If the world ends up going down the protection­ist route, we are all going to be poorer’

 ??  ?? Then-presidenti­al nominee Donald Trump addresses a campaign rally in the Rodeo Arena at the Jefferson County Fairground­s October 29, 2016 in Golden, Colorado.
Then-presidenti­al nominee Donald Trump addresses a campaign rally in the Rodeo Arena at the Jefferson County Fairground­s October 29, 2016 in Golden, Colorado.
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