The Key to Economic Growth

Before there was trade, Homo erectus, an ancestor of the modern-day human or Homo sapien, made and used basic tools. The primitive species carved hand axes and spearheads out of stone to support their hunter-gatherer lifestyle, which they stuck with for longer than a million years. The Homo erectus had a large brain and likely a rudimentary language, yet every hand axe or spear head that they made was the same. There was a severe lack of innovation until modern humans arrived. In less than about 100,000 years, Homo sapiens figured out how to live a more innovative lifestyle, instead of wandering in search of food. Not only did they figure out fishing and farming, but the modern human developed vaccinations, spaceships, and the internet in about one tenth of the time that their ancestor had to roam the earth. So, what was the Homo erectus missing that the modern human was able to exploit? A brain capable of creation? No. The ability to communicate with one another? That’s not it. The reason for the astounding success of the Homo sapiens in a fraction of the time is trade. Trade allows each participating party to focus on one competitive advantage, that is, one good that they can produce more efficiently than another could, and trade for everything else that one needs. Trade is mutually beneficial and allows for the advancement of society at an alarming rate when compared to previous societies.

If trade were to come to a halt, modern society would completely collapse. Production levels would tank, consumption would be almost non-existent, and the economy as we know it would cease to exist. So why, one may ask, would the president of the biggest economic powerhouse in the world add additional costs to imports and deter international commerce? Although trade is beneficial to all parties involved, it is necessary to recognize that all exports are matched by imports. For one country to run a trade surplus (export more goods and services than they import) and therefore make a profit, another country must run a trade deficit (import more goods than they export). Policy makers have long debated what stance the United States should take on this issue, but this article will not delve deeply into the politics behind international trade. Instead, this article will attempt to focus on how the so called “tariff war” that President Trump has engaged in with China’s “paramount leader” Xi Jinping affects the U.S. markets and economy.

To give a brief synopsis, President Trump aims to decrease the trade deficit that the United States currently runs when dealing with China, the world’s largest exporter. Trump aims to deter imports from China and bring manufacturing and supply chain operations into the United States, therefore increasing GDP (gross domestic product, or economic output) and decreasing national debt. To do this, the President has enacted tariffs of 10% on half of what the U.S. imports annually from China, approximately $250 billion worth of goods. A tariff is defined as a tax on imported or exported goods. As a response, China has imposed tariffs on the United States, the world’s second largest exporter. This has deterred trade and has made investors pull funds from the markets in recent weeks, particularly in sectors that rely heavily on Chinese imports, such as technology and manufacturing.

Over the past year, Trump and his administration have been trying to reach an agreement with Jinping and his delegates for a more favorable balance of trade for the United States, and they have been unsuccessful. On Monday, December 2, however, the two leaders met in Argentina at the G20 summit to further discuss the issue and finally came to an agreement…or so the public was led to believe. When the news broke that an agreement had been reached and that President Trump would delay a hike in tariffs from 10% to 25%, scheduled for January 1, 2019, until March, the markets responded. The news of a temporary truce sparked a 1.1% rise in the Dow Jones Industrial Average (DJIA) and the S&P 500 on Monday. The DJIA and S&P 500 are major market indices, and the two most significant, widely referenced indicators of the strength of the U.S. stock markets. Investors celebrated a pause in fiscal warfare, and the increase in the stock market reflected a level of optimism and certainty that a potential trade agreement brought.

This feeling of certainty and security did not last very long, however. On Tuesday, stories detailing the discussions between Trump and Jinping flooded the media. Many of them described discrepancies between what was agreed upon in the meeting, and both sides seemed to claim that the other had made inaccurate statements on the resolutions. Trump announced that appointed representatives from each nation would begin negotiations on January 1, 2019, and that the parties would have 90 days to reach an agreement. If they did not do so by this deadline, President Trump reminded the world that he is a “tariff man” and he would raise the current 10% tariff on Chinese imports to 25%. Reports from China reflect a confused and angry leadership team, who appeared to refute and reject the agreement of the 90-day deadline. When investors were informed of the confusion and uncertainty around the agreement between nations, the markets suffered. The DJIA fell almost 800 points (799 or 3.1%) and the S&P fell 3.2%, erasing far more than the gains they had made the previous day.

Uncertainty dampens trading and investing and slows the flow of funds throughout an economy. Investors enjoy feelings of security and predictability, and are easily spooked by confusion or ambiguity, especially at a macroeconomic level. As a result of the back and forth nature of this trade war, investors are in the same position they were before the global conference, a position of uncertainty. Prices and supply on half of the goods imported from China are unpredictable, leading to skepticism and even sell-offs from stockholders. As investment and transactions drive the economy, the slowing in the flow of funds is not a good sign for the United States’ markets.

Will the U.S. and China reach an agreement before Trump enacts another round of trade hindering tariffs? It is unclear now. What is clear is that China relies more heavily on trade than the United States. As of 2017, almost one fifth, 19.1%, of China’s GDP was accounted for by trade, while international commerce contributes only 13.4% to the U.S. GDP. President Trump looks to impose his will on Jinping and the People’s Republic of China, and while it may appear that he is “winning” this trade war, that may not mean that the U.S. is left unharmed. Will the economic powerhouse and dictatorship bend a knee and accept Trump’s demands? More likely, Jinping and his party will accept weaker growth through inhibited trade out of pride and stubbornness.

With unpredictability and ambivalence on the horizon, trade is executed less often and on a smaller scale. Trade is proven to be beneficial for all parties involved and is responsible for the uncanny development in society. However, trade, and therefore economic growth, is hindered by threatened tariffs. If the uncertainty of trade volume and pricing between the world’s two largest economic powers continues, it will bring about volatility in the markets and reduce economic output. This leaves investors little choice but to hold cash or look elsewhere for secure and profitable investments. Today’s economy relies heavily on trade agreements and without them the modern human may as well roam around looking for seeds and berries and crafting axes and spearheads out of stone to survive.

Sources Cited

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Graham, Jedd. “What Is A Tariff, Who Pays, And What Is The Purpose Of A Tariff?” Investor's Business Daily, Investor's Business Daily, 18 Oct. 2018, www.investors.com/news/economy/what-is-a-tariff/.

Mackintosh, James. “Trading on Uncertainty About Tariffs.” The Wall Street Journal, Dow Jones & Company, 4 Dec. 2018, www.wsj.com/articles/trading-on-uncertainty-about-tariffs-1543920033?mod=djemMoneyBeat_us.

Papineau, David. “The Rational Optimist: How Prosperity Evolves | Book Review.” The Guardian, Guardian News and Media, 12 June 2010, www.theguardian.com/books/2010/jun/13/the-rational-optimist-matt-ridley?CMP=share_btn_link.

Politi, James. “Trump's Breakthrough China Deal Mired in Confusion.” Financial Times, Financial Times, 4 Dec. 2018, www.ft.com/content/e96dfbb8-f7da-11e8-af46-2022a0b02a6c?list=intlhomepage.

Wursthorn, Michael, and David Hodari. “Dow Tumbles Nearly 800 Points as Trade Jitters Return.” The Wall Street Journal, Dow Jones & Company, 4 Dec. 2018, www.wsj.com/articles/dow-tumbles-nearly-800-points-as-trade-jitters-return-1543959007?mod=hp_lead_pos1.