Five Things You Must Know About Trade Wars

by Sheppard Mullin Richter & Hampton LLP

Sheppard Mullin Richter & Hampton LLP

On April 3, 2018, President Trump’s U.S. Trade Representative released a list of 1300 categories of Chinese goods that will be subject to 25% tariffs. That followed a tit-for-tat exchange in which President Trump announced a round of steel and aluminum tariffs on March 8, and China announced tariffs on U.S. imports worth around $3 billion on April 2 (including American pork, fruit, wine and steel pipes). On April 5, China responded with a list of $50 billion of U.S. goods that will be subject to increased tariffs (including aircraft, automobiles, and soybeans). That same day, Mr. Trump announced that he is looking for $100 billion additional Chinese goods to tax.

There are some legitimate criticisms of Chinese trade practices, particularly in the areas of intellectual property protection, cybersecurity, and subsidies. From time to time, Mr. Trump has cast his tariff proposals as part of a larger plan to address those threats.

It’s not a trade war yet (since the majority of the tariffs are still pending). And Mr. Trump’s team says they are thinking a step ahead of China. In an NPR interview this week, President Trump’s Director of Trade and Industrial Policy Peter Navarro likened it to a chess match. But make no mistake: trade sabers are rattling. Here’s what to know about what may happen next.

1. The President of the United States has all the authority he needs to start a trade war.

A tariff is a tax on imports. Article I of the U.S. Constitution places the power to impose tariffs (as with all taxes) squarely in the hands of the U.S. Congress. And prior to about 1962, that is where it stayed. Past U.S. trade wars were waged by Congress, with the President mostly exercising his Article II executive power only when trade bills reached his desk. But over the past 50 years, Congress has delegated most of its tariff powers to the President in multiple rounds of trade legislation. The tariffs being proposed by President Trump are all defensible under those laws. So President Trump has way more power to wage trade wars than, say Herbert Hoover did in 1930.

2. Our adversaries have advantages we do not.

As much as we’d like to think of a trade war as a matter of outfoxing China in a chess match, it’s more like a high-stakes game of mumblety-peg: each player puts one hand on the table with fingers spread out, takes a really big knife in the other hand, and stabs the table rapidly in the spaces between their own fingers, trying not to self-inflict a stab wound. Each round escalates in intensity, speed, and complexity. Winning may cost a digit or two.

In a trade war, the game is played like this: we may protect the ability of our steel industry to raise its prices (for example) by taxing the adversary’s steel. But that hurts our own automakers (and anybody else who consumes steel). The adversary may respond by taxing our pork, which protects their own farmers (and hurts their pork consumers) but imposes pain on our farmers. By design, every action in a trade war buys short term relief in one sector with pain in another. And as an editorial in Business Insider recently observed, “when you’re about to inflict pain on your own people, authoritarianism has its benefits.” The theory there is that China may be able to bear more self-inflicted wounds than the United States.

3. The international trading system has rules designed to limit the damage.

After the last big trade war deepened the great depression and greased the skids for the slide into WWII, the United States and the other world powers got together and constructed a rules-based system to prevent a repeat. The result? The World Trade Organization, a set of global trade agreements covering about 98 percent of all world trade. The WTO is designed to set rules for international commerce, settle disputes between its 163 members, and provide a global forum for reducing barriers to trade. It’s worked pretty well: no trade wars since Smoot-Hawley

4. But watch out for signs those rules are being disregarded

There is a delicious (albeit a durian-like delicious) irony in hearing a protectionist Republican president being chided by free-trade Democrats. But any free-traders in the Trump White House may soon find the music stopping and their chairs usurped (Gary Cohn, check) or at least threatened (Jared Kushner, check). If we continue to hear anti-WTO rhetoric from the Trump Administration (Wilbur Ross, Robert Lighthizer, Peter Navarro, check) it may be a bad sign for the rules-based world trading system that has put the brakes on trade wars for the last 70 years.

5. Trade wars are bad for everybody, unless somebody is really changing the game.

Mr. Trump famously tweeted that “trade wars are good, and easy to win.” Well, no. On both counts. Raising tariffs provides undeniable short-term benefits to the protected industry (remember those steel companies, who can raise their prices because their competitors are taxed at a higher rate). But consumers pay the price immediately through higher prices. In the medium term, the adversary retaliates, and our producers are hit with decreased demand. Then through the escalating rounds of tit-for-tat tariffs, the pattern repeats and spreads throughout more sectors of the economy. In the long term, trade is depressed and overall GDP of both countries suffers. There’s really no serious debate on that

But what about that chessboard Mr. Navarro referred to on NPR? What if all the trade war talk is just to position pawns in a larger game designed to get China to tip over its king? In essence, the United States elected Donald Trump to bring a different perspective to Washington’s problems. He has boasted that he has a plan to end all manner of Chinese trade behaviors Washington finds intolerable. So far it looks like he’s stabbing in the dark. But if the plan comes together, and the threat of a trade war has been one of a series of orchestrated (if blustery) chess moves toward bringing China and the United States into a mutually advantageous trading relationship, it will have seriously changed the rules of the game of international trade. This is a major test of the philosophy Mr. Trump was elected to execute. We’ll be watching for developments and reporting on them here.

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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