Tariffs, Global Trade Wars and Protectionism Defined and What it Means for Your Business

The Trump Administration has imposed unprecedented tariffs on a range of Chinese goods.  With this move, President Trump has shaken the very foundations of all global trade. He has imposed steep tariffs on billions of dollars of goods, even the goods of our closest allies in the European Union, Canada and Mexico. Not surprisingly, every country has reciprocated and responded in kind, thus garnering millions of dollars in levies on American products.  It does not take a novice to realize that the world’s strongest, most robust and largest economies on Earth are engaged in a trade war.

A Tariff Defined

At its fundamental level in America, a tariff is a tax on a product made outside of the United States. Theoretically, levying taxes on goods and services entering the country translates into domestic purchases of foreign items less likely because the tariffs have made them more expensive.  When a tariff is put into place, the primary intention of the regulatory authority which imposed the tax is that, domestically, cheaper local products are available and purchased instead. Ultimately, this is all supposed to boost the economy of the country imposing the tariff.

Trump Tariffs- Why?

President Trump has introduced tariffs on billions and billions of dollars’ worth of goods and services globally; China, in particular, has been his biggest target. He has made good on a declaration promised levie on $200 billion worth of Chinese items. The President is aiming to slash a massive trade deficit with China, a country that many have condemned for its supposedly unfair trade practices long before President Trump took office.

Trump, as are many experts, is certain and convinced that trade, in its existing form with China, is desively detrimental to American manufacturing.  This is a reality that the Executive Branch and President Trump must be addressed and tackled.

A Trade Deficit Defined

The straightforward definition of a trade war is that it commonly results when a country takes or threatens action due to its unfavorable variance in trade with others. It’s a term meaning the difference between how much a country purchases from another country or ruling regulatory to the dollar amount that the home country sells to foreign bodies.

You have probably heard the phrase: “China owns the United States.” In 2017, the current trade variance points in that direction.  For example, in 2017, the US trade deficit with China close to $400 billion. To a certain extent, this is true- in part because of the massive trade differential between China and the United States.  Just take a look at the overwhelming evidence in the following chart:

One of Trump’s biggest campaign promises was to focus on the state of trade in the United States. Trump’s goal is to lower the trade deficit, and the method he has to decided to use is tariffs.

Although Trump despises them, trade deficits are not always a bad thing.  In the past few decades, several wealthier countries have gradually shifted to service economies from manufacturing economies. The United States is a service economy, where services account for 90% of the economy and, in 2017, exported just over $240 billion worth of services in the tourist, travel and banking arenas.  China, on the other hand, doesn’t export anything close to as many services as it does manufactured products- it is considered a manufacturing economy.  

Do Tariffs Actually Work?

Not even the most seasoned expert has ever been able to give a definite answer to this question.

Looking at Trump’s tariffs, it is quite possible that domestic steel manufacturers could get a boost- classic economics dictates that demand drives new hires and bigger profits. The tricky part is that most of these companies require raw materials for their products- think car and aircraft manufacturers.  Guess where those raw materials come from? You got it- they come from abroad. To make matters worse, they come from the very countries targeted by tariffs. So, this actually makes companies in need of raw materials raise their costs, completely defeating the purpose of a tariff to begin with.

What are the Effects of Tarrifs?

Tariffs are not innocuous- they can and do affect people and organizations globally.  This is especially obvious in light of China’s reaction and retaliation. China is Earth’s second-largest global economic powerhouse and has now levied taxes on a large variety of American industrial and agricultural items- this includes everything from soybeans to steel pipes.

In concept China has the option to also tax US tech companies such as Apple. This would be an enormous hit for the tech mogul, and the company could be forced to raise its prices to hit profit numbers.

Tariffs give rise to global trade wars.  A global trade war has a massive potential to harm customers globally by making it more difficult for all companies to operate as normal, \ hence forcing companies to push higher prices onto their consumers.

A Trade War: Defined

A trade war results when countries make moves to attack each other’s trade with taxes, quotas and tariffs.  The basic process of a trade war is:

The point we are trying to make is that putting tariffs into practice is not always good…and it’s not always bad.  It is just absolutely critical that any imposition of taxes on another nation’s products and services must be given every last ounce of thought.

Protectionism: Defined

When a country uses restrictions such as tariffs to boost its industries and protect those industries from foreign competition, it is called protectionism.

As an example, look at the Trump administration’s levied taxes on foreign steel and aluminum products. By the end of the first quarter in 2018, prior to the tariffs on China, Trump declared a 25% tariff on all steel imports, and 10% on those that were aluminum.

Trump has taken an exponentially increasing protectionist stance on trade. When he slapped more tariffs on Chinese imports, he also put into place tariffs on steel and aluminum imports from Mexico, Canada and the European Union, all of which retaliated by levying tariffs of their own.

Trump’s logic is that the United States relies too heavily on outside countries for its metals and that it could make plenty of weapons or vehicles using its own industry if a war broke out.  Critics point out that the United States gets a majority of its steel from Canada and the European Union- staunch US allies.  

In theory, taxing foreign steel and aluminum will mean US companies will buy local steel instead. The thinking is that will boost the US steel and aluminum industries, as more companies will want to buy their goods.Steel and aluminum prices will go up in the US because there will be less of these goods coming in from abroad.

Commentary: Expert & Public

When your partisan Speaker of the House vocally expressed his distaste with your executive decision, you might be facing an uphill battle.  This was the case when Speaker of the House, Paul Ryan (R-Wisc) made the following declaration via his personal press office earlier in 2018:

Is Resorting Back to Free Trade Better?

Again, this depends on the person you ask, and not even the most seasoned expert has ever been able to give a definite answer to this question.

The direct opposite of protectionism is free trade.  Free trade means having as few taxes as possible on all goods and services.  Essentially, people have the freedom to purchase far cheaper and more durable well-made from abroad.  Automobiles, perishable goods like food and flowers, cell phones and even your internet connection are simply cheaper.  But, at the same time, that means companies are less likely to buy local products. Why buy domestic when you can get more, cheaper, from a different country?

Please note that the implementation of free trade translates into the loss of jobs in wealthier countries and uneven and unsustainable growth.  The gray line on a concrete opinion of free trade exists because, while free trade has made some wealthier, it’s made others more economically disadvantaged.  

How Does the Story End?

This is another question without a definite answer.  Even when a list of pros and cons is made it is still impossible to come to a conclusion.  Exports and renowned historians have highlighted that tariffs usually lead to more costs for the consumer.  Even significant members of the Republican Party economists are anti-tariff! On the flipside, there do exist disgustingly and unquestionably bad trade practices by nations like China.  It is the opinion of many, however, that the more appropriate response and the better approach should target enforcing tackling those bad practices. Our economy and our national security are strengthened by fostering free trade with our allies.

Conclusion

Thomas Huckabee, CPA of San Diego, California recognizes that many options exist when it comes to choosing CPA.  When it comes to tariffs and the effects that tariffs, or retaliation-tariffs, have on your business, Tom is a pro. Operating a full-service accounting firm, Tom guides clients through the complicated process of knowing which path to take so a business’ decisions are optimized.