Yesterday we explored how currency manipulation works, today we’ll be looking at tariffs briefly before examining why the currency bill isn’t going to change China.
When we talk about imposing tariffs on Chinese goods, it sounds like a great way to promote the American economy. Lawmakers argue that these tariffs will force China to revalue its currency, help create jobs in the US, and hopefully force China to open its markets to American products (although this chart from The Economist suggests otherwise). It sounds like a miracle solution to America’s economic problems. But what if we called it a 10-20% tax on everything imported from China?
As Tim Harford explains in his book “The Undercover Economist” (a fun introduction to economics that goes a bit more in depth than Freakonomics), ultimately, tariffs hurt people on both sides of the legislation.
Let’s say China is selling us socks, and we are selling China cars. Then we impose a 20% tariff on socks from China, which means that consumers would respond by buying roughly 20% fewer socks from China (maybe they buy the slightly nicer American socks, or find a Bangladeshi pair, or we get to start using the verb “to darn” again). Since that 20% price increase is being imposed by the US gov’t, the Chinese factory owner doesn’t benefit from it in anyway, and his earnings decline by 20%. Now instead of being able to buy the American car he wanted, he opts to buy a cheaper Chinese brand.
In that situation who wins? American consumers don’t really benefit, American factories might benefit slightly, Chinese factory workers and factory owners end up with fewer jobs and lower earnings, and American car companies don’t end up selling any more cars. Tariffs also ignore the fact that a large number of “made in China” products actually provide a larger stream of cash to American companies than to their Chinese manufacturers (report).
The Bill Won’t Work
The other major factor that the Senate seems to be ignoring is that when it comes to international trade and currency policy, China has the attitude of a stubborn 2 year old. When the US threatened to label China as a manipulator in 2010, China’s firm response was “nu-uhhh”. China maintained it’s fixed RMB policy until a week before the report was due, which then allowed the US to say that China was not a currency manipulator. Since then China’ s currency has been slowly appreciating (there is a limit on how much the value can change in a single day).
Other trade issues have resulted in similar reactions. When Obama introduced a tariff on Chinese tires, China responded with a tariff on American chicken feet (or chicken paws as they are known in the business). This spat has been far harder on poultry companies in the US than on Chinese tire makers. While China can always sell tires to other countries, it turns out there is no alternative market for chicken feet that can absorb the quantity China does (they end up as fertilizer or pet food now instead of a dim sum treat). Learn more about this story from Planet Money
China often responds tit for tat when it comes to trade, and uses trade in political disputes too (like with Japan and Norway). China has also made it clear through numerous policies that it will do whatever it takes to support Chinese businesses over foreign ones (a comparison of Apple product prices in the US and China). When these issues are brought before the WTO, and even after the WTO rules against China, the gov’t is very resistant to making the changes.
I think an important factor in China’s reactions is its desire to appear strong on the world stage in disagreements with the US, and Chinese nationalists openly criticize the Party for being weak when they bow to foreign pressure (the same is true for American politicians). This has driven a number of stories that now seem to be accepted as fact by my Chinese friends; that the US intentionally pushed Japan’s Yen lower to cause it’s economic faltering, or that George Soros sold off a large amount of Asian currency to cause the wider economic slow down in the 90′s. So in spite of arguments that many Chinese could benefit from a stronger currency, and that the policy is likely a factor in China’s growing inflation concerns (due to the massive amount of RMB created to keep the price pegged to the USD), the Chinese people remain strongly opposed to any policy changes.
As for the US side, I think passing this bill will result in far fewer benefits than simply threatening China with this kind of legislation (which has been somewhat effective in the past). If the US were to back down, the Party could claim victory, and then resume the appreciation of the RMB. It is important to keep in mind a trade war is in no one’s interest, but I think China would have much more of a stomach for the setbacks it would cause than the US population. Sadly, it seems that this bill is the result more of politics than economics.