Trade Tariffs – A Bad Idea Whose Time has Come?

“When I write, I feel like an armless, legless man with a crayon in his mouth.”

                                                                                                       ― Kurt Vonnegut

The Unrepentant Capitalist returns from a pretty epic case of writer’s block.

Are trade tariffs a bad idea whose time has come?

The Unrepentant Capitalist is an avowed Adam Smith disciple, so any pro-tariff talk from me probably sounds like a serious flip-flop and violation of the free trade beliefs I preach.  

The current trade relationship between the US and China needs a major ‘reset’ and tariffs may be the necessary evil to get there.  Trade with China has usually brought some pretty serious downside for American companies; it's time to change.

American companies wanting access to the Chinese marketplace has typically meant those companies are forced to enter into joint venture type arrangements where, among other things, the American company has to give away the 'secret sauce' behind their key products or business methods to their Chinese partners to close the deal.  This is commonly called ‘forced technology transfer’ and the loss of valuable intellectual property (IP) by American companies is a big deal.  In prior postings, the Unrepentent Capitalist has discussed the importance of innovation to a modern economy, and IP is the crucial fuel for the innovation engine.

While I think tariffs may be a necessary evil to help bring about a reset, we need to be clear about what tariffs really are and who’s paying them.

Tariffs are taxes paid by Americans.

It’s frustrating to hear people (who should know better) misrepresent what tariffs are and who’s paying.

The president recently tweeted, “Tariffs are NOW being paid to the United States by China on Billions of Dollars worth of goods & products. These massive payments go directly to the Treasury of the U.S.”

Well, he got one thing right, and a really important thing wrong.  The payments are going to the U.S. Treasury alright, but China isn’t the one paying. The American consumers and American importers/retailers are the ones paying.

In my simple non-tariff trade flow diagram below, a Chinese company manufactures shirts and sells them to Walmart who then sells the shirts to the American consumer.  (In my example, Walmart serves as the importer and retailer.)

In my 10% tariff trade flow diagram, the Chinese company still manufactures and sells the shirts to Walmart who sells them to the consumer, but now Walmart, as the importer, has to pay the US Treasury the tariff/tax on the shirts.  To make up for the tariff/tax, Walmart has to now charge more for each shirt (the consumer pays for the shirt and part of the tariff) and Walmart also has to ‘eat’ some of the tariff by accepting a lower profit margin on shirts (i.e. the pre-tariff mark-up on shirts was 30%, now the mark-up is 25%). 

Notice that on the diagram, there’s no arrow representing money going from the Chinese shirt manufacturer to the US Treasury. That arrow is missing because the Chinese shirt manufacturer isn’t paying anything to the US Treasury.  The hope of the tariff strategy is to make the product in question more expensive and create a drop in demand for that product.

If we need to do this tariff thing with China to level the trade playing field and get a more equitable long-term trade deal, so be it, but let’s just be truthful about what tariffs are (tariffs are a tax) and who’s paying (Americans are paying).