A modest defense of tariffs

From publications like The Wall Street Journal, you might conclude that tariffs as an economics practice is in the same category as piracy, slavery and child labor, but worse.

Economists’ main complaint with tariffs is not that they’re destructive and immoral. Economists don’t make moral judgments, after all. There’s a reason they call their profession “the dismal science.”

No, economists’ main complaint about tariffs is that they’re stupid. “Tariffs are stupid” is Economics 101. It’s a given. It’s econo-dogma. The Pope may or may not be Catholic, but popular business publications preach from their printed and pixeled pulpits that tariffs are indisputably, irrevocably, universally, invariably stupid.

In the spirit of Protestantism and economics contrarianism, let me offer a defense of this much-maligned practice. At the outset, I’ll stipulate to some things.

First, it’s true that tariffs are much like a sales tax. Adding a tariff to imported goods tends to raise the price of those goods, just as we saw a few years ago that adding a sales tax on Amazon goods adds to the check-out price of those goods.

If the U.S. government slaps a 10% tariff on, for example, imported steel, it’s logical to expect the price of imported steel to the U.S. consumer to rise about 10%.

But that’s not always the case, because, while tariffs are much like sales taxes, they aren’t exactly the same. A tariff applies not to all goods, but to specific goods – ones that are imported from overseas and specifically designated for the tariff.

Those tariffed goods compete with other goods such as domestic goods that are un-tariffed and other imported goods that are un-tariffed. A steel importer who simply passes his tariff along to the consumer will thereby put his goods at a competitive disadvantage, pricewise.

For that reason, the importers might absorb some of a tariff in their profit margins. Assume the importer has a profit margin of 30%. A 10% tariff could cut that to 20%. The importer might raise prices by the entire 10% in order to maintain his 30% profit margins, and thereby disadvantage his product pricewise, or he might raise prices only 7% and absorb the other 3% in his margins so that he winds up with margins of only 27%.

To the extent the foreign manufacturer absorbs the tariff in his profit structure, it’s he, not the consumer, who is paying the tax.

He would do this not because he’s a good guy, but because he wants to maintain market share vis a vis his un-tariffed competitors. The invisible hand works, even in an artificial market.

To the extent the tariff does get passed onto the America consumer, it’s worth considering what that consumer is currently paying. Apart from certain French wine and Italian sports cars, I’m always amazed how inexpensive foreign-made “stuff” is.

Consumer electronics are a good example. You can get a new, perfectly serviceable smart phone that puts the world at your fingertips – something you couldn’t buy for a billion dollars a generation ago – for $300. That’s about what a house-call by a plumber to fix a toilet cost you last week.

Americans are wealthy enough to pay a few dollars more for foreign-made “stuff.” Especially if that stuff is made under difficult conditions by exploited and sometimes underaged workers who deserve better pay and conditions.

Second, let’s stipulate that trade wars can be bad. If we impose a tariff on wine that Europeans export to us, we should expect the Europeans to impose a retaliatory tariff on something we export to them, such as American whiskey and Harley Davidson motorcycles.

That was exactly what happened in President Trump’s first term. And that was only one salvo in the trade war. It began with a squabble over long-standing European government subsidies to European aerospace companies which put American companies such as Boeing at an unfair disadvantage. Where that trade war will end depends on the mood of the governments and the power of lobbyists – two forces that are often both unpredictable and unconstructive.

The most famous trade war was launched by the Smoot-Hawley Tariff Act. Passed in the wake of the 1929 stock market crash, the 40% American tariffs imposed by Smoot-Hawley and retaliatory tariffs imposed by our trading partners crippled world trade and slashed business profits, leading to bank failures worldwide, the Great Depression and, arguably, World War II.

Let’s not go there again.

That said, there are several legitimate uses of tariffs that even economists would approve of. One is to protect industries that are strategically important. If steel is a strategic industry (and it is) then protecting that industry from being decimated by cheap foreign imports is a legitimate use of tariffs. It’s entirely possible that America will someday need Pittsburg steel again, and I don’t mean the football team.

(This is not to say I approve of President Biden blocking the sale of U.S. Steel to Nippon. That’s a complicated question. After all, Nippon proposed not to end American steel production but to maintain it in America while improving efficiencies – which could lower prices and strengthen the industry here, not weaken it.)

Another legitimate use of tariffs is to protect an industry that is culturally important. In rural France, for example, winemaking is culturally important. The argument can be made that the French winemaking culture ought not be at the mercy of mass-produced wine from, say, Romania.

Or maybe it should be, to produce better wine and lower prices for all. But that’s a judgment for a culture to make. Tariff protections for isolated industries such as winemaking will not to cripple the world economy.

Another legitimate use for tariffs, most economists would agree, is to threaten them without imposing them. Threatening to impose a 25% tariff on French wine if the French don’t quit unfairly subsidizing their aerospace companies that compete unfairly with Boeing, is fine by me.

Of course, such threats are credible, and effective, only if they get carried out once in a while. The next thing you know, we’re punishing American whiskey makers for the French unfairly subsidizing their aerospace companies.

Those are my stipulations on the subject. Now back to tariffs as a sales tax.

In the world of economics, activities are either productive or consumptive. Productive things are good, because they produce resources. They grow the pie. The bigger the pie, the more for everyone at the table.

In fact, productive things are actually double-good because what they produce, in turn, is often productive in its own right. It’s a virtuous circle.

In contrast, consumptive things are viewed as bad in the world of economics. They don’t grow the pie; they eat the pie. They use up resources. It’s fine to eat a little of the pie, but recognize that then there’s a smaller pie. Eat too much of it, and there won’t be any for a hungry day.

Let’s contrast sales taxes in the form of tariffs with other taxes. Income taxes are thought to be bad because they punish people for a productive activity – working. That’s how you obtain income, after all. Punishing people for working is bad economics policy (even if – especially if – it helps certain class warfare politicians get elected).

Investment taxes like capital gains taxes are even worse. They punish people for making investments. If people don’t make investments, then new businesses are denied the capital they need to grow and innovate.

Apple Computer started in a garage. Without capital investments, it would still be there.

And so, economists generally favor sales taxes which discourage consumption, over both income taxes and investment taxes which discourage production and investment.

Crafting our sales taxes as tariffs might be an especially good approach because we can imbue them with some nuanced policy considerations. Much as liquor and gasoline get taxed extra-high because we want to discourage their consumption, we could extra-tariff such things as, well, Chinese steel if our desire is to avoid over-relying on it.

Ah but, you say, then the Chinese will retaliate by slapping tariffs (notice how tariffs always get “slapped”) on our imports to them, such as . . .

. . . um, I can’t think of any.

OK, but, you say, SMOOT-HAWLEY.

Fine, I agree that we should not slap, or even place, 40% tariffs on all our imports. We don’t want a trade war, global economic disruption, bank failures, a Great Depression, and World War III.

I submit that it’s not one or the other. I submit that we have a lesson to learn from Smoot-Hawley, sure enough, but perhaps we’ve learned it too well.