Tariffs and Inflation How Economics Applies to Protectionism

Photo Credit: Official White House Photo by Joyce N. Boghosian - President Donald J. Trump signs the Section 232 Proclamations on Steel and Aluminum Imports

Following the announcement of new tariffs on steel and aluminum, I tweeted a number of statements, some of which received a fair amounts of, “likes,” and, “retweets.” The one that I personally considered the most important did not, it was also, perhaps, the one that had to do with the most complex matter: monetary policy. While this subject is not easily understood, it is vital to our overall understanding of the consequences of tariffs, and trade deficits/surpluses. It is for the purposes of helping the reader to better understand monetary policy, that I write this brief essay.

 

To understand money, we must first understand the basic laws of supply and demand. Money is not merely a medium of exchange, but is also effected by its own supply and demand. If the supply of milk increases, we should expect a decline in the price of milk, right? This makes sense to most people. Money operates in much the same manner. If the supply of money increases, the price of it decreases. In the case of money, when its price decreases, this means that it is worth less, and hence can buy fewer goods and services.

The true definition of inflation is not an increase in prices, but rather an increase in the money supply. An increase in prices may or may not be due to true inflation, however, when the supply of money increases, there is always a rise in prices.

Most people would agree that a low cost of living is a good thing. Products and services that we all use cost very little. If the supply of money increases, the cost of those same things increases, effectively making everyone poorer. We are able to afford less even with the same amount of money.

The problem tariffs are meant to deal with is trade deficits, meaning that money is leaving the country at a greater rate than it is coming in. Americans import more goods than they export. The supply of money is leaving the country, making the value of money (domestically speaking) more valuable. It is precisely because of a trade deficit that the Federal Reserve, in partnership with the US Treasury are able to rapidly print money and yet we Americans see little effect on our own bills. Trade deficits have been a net good, given the monetary policy of the Federal Reserve following the Great Recession.

We are now in different times, with a different President. The trade deficit has been seen as a major problem by President Trump and he has announced that tariffs will be put into place to combat it. Imports of foreign steel will be taxed at 25%, and imports of foreign aluminum will be taxed at 10%. To some, this means a win for domestic steel and aluminum, but to the vast majority of Americans, this will mean a lower trade deficit. A lower trade deficit means more money floating around America, which means the value of the dollar itself will decline.

This is merely one problem with tariffs. There is of course the issue of reciprocal tariffs from other countries, commonly referred to as a trade war. If American takes the position that it will import less, then it should also expect to export less. China has already announced its own response to Donald Trump’s executive actions on tariffs. While trade wars can be a nice negotiating tool politically, they ultimately still have a negative impact on a nation’s economy.

Of course, there is also a bit of hypocrisy when it comes to taxation as a whole. To be clear, tariffs are TAXES paid by AMERICANS. Tariffs are not levied on other nations wishing to sell their products to Americans, they are levied on Americans who wish to import products. If lowering taxes is good for an economy, logic would have it that raising tariffs are bad for an economy, because tariffs are nothing more than taxes. Interestingly enough, they are taxes that are levied almost exclusively on American businesses wishing to provide lower cost products to Americans.

Finally, we must address the absolute lunacy that China or any other nation is “ripping us off.” If Chinese businessmen provide Americans with low cost products, while the American alternative offers high cost products, how could anyone possibly point to the Chinese as the scam artists? If anything, it is the American businesses who lobby the President for increases tariffs, which raise the price of their competitors’ products, such that they remain competitive. WHO is really ripping us off? The guy who sells a product for $5, or the one who sells a product for $10?

Tariffs are a wonderful political policy. The positive effects are immediately seen; US Steel is opening a plant in Illinois that will employ 500 people. Wonderful! The tariffs are working! The negative effects are seen only later, and are rarely properly attributed to tariffs. When the prices of automobiles rises, the “greedy car companies” will be blamed, not government intervention.

This a perfect case of the seen and unseen. The immediate and the deferred. The great positive effects on a few and the smaller negative effects on the many. It is what Henry Hazlitt wrote in Economics in One Lesson. A good economist looks not only at the immediate effects of a policy on a specific group, but also at the long term effects on an entire population.

Unfortunately, politics is a short-term game. Politicians care little about the effects their policies have decades down the road. They operate in 2, 4, and 6 year intervals; anything outside of that is disregarded. This is not solely a problem with the politicians, however, but with many modern Americans. Immediate gratification is assumed to be the norm. Economics does not abide by that norm, and we should heed its warning.

About Tim Preuss

Tim Preuss is a political commentator and host of the Tim Preuss Podcast, available Monday-Friday on the Liberty Radio Network, Talk America Radio, iTunes, Stitcher, and everywhere else. The show focuses on news and politics and has featured world-renowned libertarian minds such as Jeffrey Tucker, Walter Block, Jeff Berwick, and many others. Email – Tim@PreussPodcast.com