Is Trump really serious about protection?

Posted on November 27, 2016

Perhaps the most important among all the many uncertainties surrounding the economic policy of the Trump administration are those related to trade and protection. During the election campaign, the president-elect made blood-curdling promises in this area, and his official campaign documentation was no less strident. If he intends to implement a large part of this agenda in office, the chances of a global trade war would be high.

Last week, trade issues moved to centre stage in the transition. The president-elect released a video confirming that America would immediately withdraw from the Trans-Pacific Partnership, a trade deal that had been intended to be the culmination of President Barack Obama’s political and economic pivot towards Asia.

This was no surprise, since the political supporters of the deal ran for cover during the 2016 elections, but it does mean that any further liberalisation of US trade (including the Transatlantic Trade and Investment Partnership with the EU) is now dead in the water.

It also provides China with a clear opportunity to take the lead in forming an Asian trading bloc, and they have eagerly stepped up to the plate. None of this will have immediate adverse consequences for global markets. It is an opportunity missed rather than a step backwards.

The second big development is the rumoured appointment of Wilbur Ross as commerce secretary (see Gillian Tett). Mr Ross is a business person rather than an ideologue on trade. If anything, he seems to be from the supply side wing of the Republican party. The market would vastly prefer this appointment to a feasible alternative such as Peter Navarro, who is an outright hawk on trade relations with China (and, somewhat ironically, the only PhD economist in Trump’s advisory team).

Although Mr Ross clearly believes that the US should be far more assertive in its trade negotiations with other countries, he has played down the likelihood of dramatic initiatives such as Mr Trump’s threat of a 45 per cent tariff on all imports from China. He has also said clearly that “there will be no trade wars”.

If this turns out to be the dominant tone of the Trump administration, then the tide of globalisation may not be rolled back very far in the next few years, and the global markets will breathe a huge sigh of relief.

But can we rely on this? Trump’s victory in the electoral college relied heavily on abnormally high levels of support in the rust belt states. The temptation to “do something” to reward these supporters by punishing those countries that are believed to have caused America’s economic decline – notably China and Mexico – will be hard to resist.

The president has wide-ranging executive authority to introduce trade controls, much of which is hard to challenge through Congress and the courts. Some form of action is inevitable. The question is how severe it will be.

At the less disruptive end of the spectrum, the administration could simply expand the activities of the Obama administration in pursuing particular cases of unfair trading practices that are the subject of loud political complaints. US action against Chinese tyre producers in 2009, and Chinese steel exporters in 2016, are example of this approach, which could be widened and pursued much more aggressively, even though it has not been very successful in safeguarding US domestic producers in the past.

Aggressive action of this sort might be increasingly outside the WTO’s legal framework, but Trump might be willing to push these agreements to the limit, in effect using American buying power to “get a better deal” for his country. This would be noisy, and subject to the risk of retaliation from China, but it would be unlikely to bring down the entire edifice of global free trade – at least, not at first.

Nor is it likely to match the political expectations that have been fuelled by the inflammatory language that Trump used during his campaign. It is easy to imagine political pressure building on the White House to live up to its campaign rhetoric on trade. If so, two targets will loom very large: car imports from Mexico, and manufactured goods (especially basic materials and technological products) from China.

Candidate Trump issued some very concrete threats in these areas, including of course declaring China a currency “manipulator”, imposing a 45 per cent tariff on all Chinese imports into the US and a 35 per cent tariff on Ford car imports from Mexico, and withdrawing from Nafta and the WTO.

It is possible that these threats are just a form of bluster, intended to elicit voluntary concessions from the countries concerned, but this could escalate into something far more concerning, especially in the circumstance of a US recession, or a large rise in the dollar, with expanding US trade deficits.

That is what happened during the Reagan years, when a great deal of political pressure was placed on Japan, resulting in “voluntary” restrictions on car exports to the US. The global structure of free trade survived on that occasion, but the markets would certainly start to worry that it might be much worse this time. China would be a much tougher nut for the US to crack than Japan three decades ago.

The next key litmus test in this area will be whether the new administration rapidly labels China as currency manipulator. While this may have been a defensible step a few years ago, almost all economists now agree with the US Treasury’s latest published assessment, to the effect that China meets only one of the three criteria used to define “manipulation”.

China is running a large trade surplus with the US, but is not recording an excessive current account surplus versus the world as a whole, and is certainly not using foreign exchange intervention to hold the currency down. In fact, the opposite.

Despite this evidence, the Trump campaign documentation baldly states that the president will “instruct the Treasury Secretary to label China as a currency manipulator”. The new Treasury Secretary probably has the legal authority under the 2015 Trade Enforcement Act to change the precise, official definition of “manipulation” to achieve this, without further Congressional approval. In any event, there seem to be Congressional majorities in favour of action on this front.

If that occurred, it would give the president authority to set in train a process leading to direct trade controls, though there could be time delays and legal challenges. Pending more definitive legal opinion on this, it seems to me that Mr Trump could probably use the 2015 Act or some other legal authority to impose a general US tariff on Chinese imports as the quid pro quo for an undervalued exchange rate.

That, in turn, could trigger a dangerous trade “war”, in which China devalues further, and the US imposes even higher tariffs. A recent briefing by the Peterson Institute concludes that a full trade war of this type would result in zero GDP growth in the US in 2018-19.

In the past week, investors have become hopeful that a modicum of sense might prevail on the trade front. But that confidence would rapidly be shattered if the administration recklessly pressed the “manipulator” button against China.

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