The Bearer of Bad Tariffs

Originally published on February 12, 2018

On January 22, 2018 President Trump imposed a set of tariffs on imported washing machines and solar panels. President Trump levied the tariff in the hopes of protecting foreign-owned America-based companies like Suniva and SolarWorld, both of which are in some financial trouble. The tariff will initially be 20 percent, and then increase to 50 percent later on. Whirpool and other American appliance manufacturers will most likely benefit from the tariff, as their products will be relatively cheaper than that of their foreign counterparts. So what exactly is a tariff? A tariff is a tax imposed on imported goods. It serves as a means of giving domestic industries an edge over their international competitors. In theory, if the United States government imposes a tariff on foreign washing machine manufactures, foreign manufacturers product prices should go up relative to domestic goods. Therefore, consumers should opt for the cheaper good, and domestic manufacturers benefit by selling a greater volume. It should be a win-win, right?

Foreign companies like LG, the South Korean appliance manufacturer has responded by increasing its prices to offset the cost of the tariff. Following the imposition, LG Electronics Inc. saw a 5 percent decrease in the first 15 minutes of the market being opening. However, throughout the day LG traded higher, eventually offsetting the initial drop.

While this tariff might be new, tariffs and protectionism in the United States is not a new phenomenon. In fact, the United States had a constitutional crisis over a tariff in 1828. The Tariff of 1828 was better known as the Tariff of Abominations, which sought to protect northern industries from foreign goods. However, the tax inadvertently raised the cost of living in the South leading to great unpopularity and eventually its nullification in 1832-33.

Well sometimes it isn’t. Sometimes a tax increase on a producer can be transferred to the consumer. In microeconomics, we look at both the producers and consumers’ responsiveness to changes in price. Whomever has a higher responsiveness to a change in price will pass on the tax to the less responsive group. In microeconomics this price responsiveness is known as elasticity. Goods like washing machines should have a rather elastic demand—as we don’t buy washing machines at the same rates that we buy food that we need. Elasticity is impacted by the size of the purchase in reference to our current income. We can wait around a little bit longer, shop around for a deal and therefore will hold off if prices are too high.

For something like a washing machine, the tariff works well in theory. However, in practice, tariffs don’t always work out as planned. In fact, this is the second solar panel tariff that has been imposed, with the last one being six years ago. Six years ago China retaliated against this tariff by relocating their development plants to Taiwan and imposed its own duties on United States’ imports, which lead to the layoff of over 1,000 workers and the scrapping of a new $1.2 billion factory.

This wasn’t the first instance of a tit-for-tat tariff war. The most notable tariff relation came in 1960s—the Chicken Tax. This ridiculous sounding name comes from the tariff on cheap imported, American chicken meat sold to German markets during the 1960s. German chicken farmers just could not compete with the post-war American agricultural industry; as a result, the German government levied a 50 percent tariff on American imported chicken meat in order to protect domestic agriculture. Sound familiar?

However, the United States did not sit around idly, and instead President Johnson in 1963 levied a 25 percent tax on all foreign pickup trucks and commercial vans. This tax would become known as the Chicken Tax. Germany at the time (and still is) known for its automobiles with BMW and what would become the Volkswagen Group, so the tax was a direct jab at a staple of the German economy. The Chicken Tax is the reason why today you see American car manufacturers like General Motors and Fiat Chrysler dominate the truck market. And, like washing machines, demand for cars is relatively elastic, so people stopped buying foreign made trucks. In addition, to hurting European manufacturers, this tariff hurt Asian truck manufacturers too, an unintended consequence of the tax.

While American car manufacturers dominate the pickup truck market, there are still some societal downsides to having a tariff. For one, because domestic companies effectively do not compete with foreign firms there might be a lack of innovation. Eventually, if the tariff is removed sometimes domestic firms are unable to compete effectively with foreign companies. While this wasn’t the case with the Chicken Tax, this did happen with Brazil in the second half of the 20th Century.

If you’re not up to date on your Brazilian industrial history, don’t worry. Essentially, to industrialize quickly, Brazil implemented import-substitution industrialization. Here, there are high tariffs on other goods in order to give preference to domestic industries. However, when Brazil abandoned this method they found it tough to compete with the rest of the world.

Tariffs seem alluring at first, and should have benefits for consumers and domestic manufactures. But, like all things in economics, there’s no such thing as a free lunch, and other countries have the ability to give the tariff-imposer a taste of its own medicine. It’ll be interesting to see how China and other countries respond to these protectionist measures.

Sources:

Baer, Werner, and Issac Kerstenetzky. “Import Substitution and Industrialization in Brazil.” The American Economic Review 54, no. 3 (1964): 411–25.

“Episode 632: The Chicken Tax.” NPR.org. Accessed January 29, 2018. https://www.npr.org/sections/money/2015/06/12/414029929/episode-632-the-chicken-tax.

Gregg, Aaron. “LG to Hike Washing Machine Prices in Response to Trump-Imposed Tariffs.” Washington Post, January 24, 2018, sec. Business. https://www.washingtonpost.com/news/business/wp/2018/01/24/lg-to-hike-washing-machine-prices-in-response-to-trump-imposed-tariffs/.

Haigh, Adam, and Lilian Karunungan. “Here’s What Trump’s Tariffs on U.S. Imports Are Doing to Markets.” Bloomberg.com, January 23, 2018. https://www.bloomberg.com/news/articles/2018-01-23/here-s-what-trump-s-tariffs-on-u-s-imports-are-doing-to-markets.

Janeway, Kimberly. “What the New Tariff on Washing Machines Means for Consumers.” Consumer Reports. Accessed January 29, 2018. https://www.consumerreports.org/washing-machines/what-the-new-tariff-on-washing-machines-means-for-consumers/.

Lynch, David J. “Trump Tariffs Will Save Some Solar Jobs and Destroy Others.” Washington Post, January 23, 2018, sec. Business. https://www.washingtonpost.com/business/economy/trump-tariffs-will-save-some-solar-jobs-and-destroy-others/2018/01/22/756feb60-fca2-11e7-8f66-2df0b94bb98a_story.html.

“The Tariff of Abominations: The Effects | US House of Representatives: History, Art & Archives.” Accessed January 29, 2018. http://history.house.gov/HistoricalHighlight/Detail/36974.