The Trump tariff fallacy

Donald Trump's massive victory in the recent US presidential election has raised the possibility that tariffs will once again be used, only this time just not against goods from China. With trade deficits between many Asian countries and the United States, there are possibilities many countries may be targeted if Trump's objectives are to reduce bilateral deficits. This could affect close allies of the US, including South Korea, Taiwan, Thailand, Vietnam, and Malaysia.

Trumps plan during the campaign was to increase tariffs on goods coming into the US by 10-20 percent. China maybe hit with a 60 percent tariff. This could flow onto global supply chains as globalism has connected world economies.

Such tariffs are potentially inflationary and recessionary

Many of the goods imported into the US are made by US corporations in China. Of the USD 551 billion from China to the United States in 2022, a substantial portion is from US companies shipping inputs for assembly in China. Another 20 percent are OEM products produced for US corporations. The tariffs are not paid by China. They are either absorbed by US corporations, which reduces profits, or passed onto consumers who pay higher prices for goods, which adds to inflation.

According to estimates made by JP Morgan Chase, the tariffs will cost the American family around USD 1,000 per year, and dampen demand after they are implemented. Share prices of other US retailers could fall, like they did back in 2019, when Trump imposed tariffs on China.

The only thing that will hurt China is a reduction in demand for goods bound for the US, which would add to slowing economic activity, thus reducing some employment.

Trump's tariffs may put pressure on companies exporting to the US from China to return to the US, or relocate to third countries. This is something that has been already happening due to rising Chinese labor rates.

The consequence of continuing this action is more retaliation from China, a drop in worldwide aggregate demand and a recession which will hurt the United States, corporations and everyone else.

The real problem is decades old

Between 1990 and 2017 US corporations invested more than US$250 billion into China. Initial investments didn't go that smoothly. Chinese authorities later eased the processes required for foreign investors, opened special economic zones and partly opened the domestic market, bringing US corporations in droves. US corporations moved to China for lower labor and operational costs and manufacture under less stringent regulatory regimes, increasing corporate profits immensely.

There was also the expectation that US companies would be able to enter the quickly-growing Chinese domestic market, as demand in the US has already matured.

As a result, manufacturing jobs dried up in the US. The promise of better jobs didn't materialize. Only low-paid menial service, warehouse and retail jobs became available, which had absolutely no career paths. Those jobs were for the lucky ones, as many became unemployed. The middle class began to shrink, as did purchasing power and the tax base. Eventually a trade imbalance between China and the US occurred, partly brought about by US products, which now became imports.

Corporations made higher profits for their shareholders at the cost of a loyal workforce that became redundant. A generation of manufacturing skills was just discarded, along with cities and towns that once housed the manufacturing facilities of these corporations. Many of these factories became warehouses and condominiums, ironically bought up by Chinese, which inflated the housing market.

After more than 35 years of capital and production capacity flight, China is now a manufacturing economy and the US is not. US manufacturing has declined to around 11.5 percent of GDP against 40 percent post WWII.

The general economic lull in the United States that existed before the last election, which helped give Trump the support base he needed to win the presidency, maybe exacerbated by any tariff hikes. This will hurt the people who had hope in Trump and elected him.

The problem isn't China. Trump didn't cause it either. He inherited the problem from successive presidential administrations. The problem was caused by the corporations which abandoned US production, and workers who were also their customers, lured by the promise of lower costs, higher profits and entry into the Chinese market.

Trump was elected to save and create jobs. To his constituency, 'make America great again' is about reacquiring traditional manufacturing jobs. However, corporations are blocked from returning from manufacturing offshore because of the high profits they are making and higher production costs they would incur if the company returned to US production. The levels of profits the corporations now enjoy can't be made manufacturing in the United States.

Bringing back the corporations

Trump is calling on US corporations to leave China and comeback to the United States. He does have executive powers to force them, but this would be politically untenable. Working through a multi-layered constitutional democracy such as the United States would almost be impossible to garner strong and committed bi-partisan support to bring the corporations back.

Tariffs appear as the easy alternative.

Even if US corporations returned, the financial costs would be high. Companies would have to rebuild manufacturing facilities, recreate supply networks where local suppliers may no longer exist, and regenerate the community environments to house their workforce.

This would be one of the most ambitious projects the United States has engaged in, something along the mammoth scale of China's Belt and Road Initiative. Extensive city re-planning would be necessary. Infrastructure built. Communities re-nurtured. The US Government would most certainly have to adopt a regime of incentives something akin to what South East Asian Governments are giving investors, something unprecedented in the US. This would most likely need to be accompanied with a tax scheme where companies manufacturing in the US would pay a lower tax than companies importing their products to factor in differential labor costs.

Has the horse already bolted?

This is the reality the United States must now live with. Now the US must learn how to accommodate China diplomatically and economically, completely outside the military paradigm. Unlike the Cold War, which was about military supremacy, this one is about trade.

China and the US, economic relations with China must be based on the reality of mutual co-existence and avenues of cooperation. This would be a complete reversal in US policy thinking.

A so-called trade war with a nation that the US has heavy investments in is nonsensical. There is the potential thatUS firms could be hurt in China. The interdependency between the Chinese and US economies needs to be recognized and reflected in policy.

US foreign policy over the first 12 months of the upcoming Trump presidency looks like being trade based. An American envoy may be calling of Asian states in the new year, looking for trade concessions to rebalance what Trump sees is a problem.