I’ve been having discussions with a number of pro-Trump friends who favor Trump’s raising of tariffs as a way to induce other countries’ governments to reduce their tariffs. They think my fear of a trade war is overstated.
One major premise of their argument is that the United States has lower tariff rates than other countries. I don’t think that matters much for the argument: even if it’s true, the dangers of a trade war are serious. Indeed, I have shared their premise.
But the Cato Institute’s Simon Lester casts doubt on that premise. In an important blog post this morning, he gives a table of tariff rates by country.
The first thing to notice is how low tariff rates are generally, something I have pointed out previously. But the second thing to note is this, in the words of Simon Lester:
Taking all of these tariff figures into account, it can be hard to come up with a precise ranking, but you can see that New Zealand and Australia are the low tariff leaders. The U.S., EU, Canada, Japan, and Switzerland come next, clustered closely together. Mexico has tariffs that are a bit higher. Then come China and Brazil with even higher tariffs.
I emphasize that whether U.S. tariff rates are higher or lower than other countries’ tariff rates is not important for my argument about the dangers of starting a tariff war. But it does seem important to some of those whom I argue against. Are they factually correct about China? Yes. Canada? Yes by the WTO measure, but no by the World Bank measure. Average the two measures and you get an average of 2.0 percent for the United States and 1.95 percent for Canada. In other words, virtually no difference.
READER COMMENTS
Vivian Darkbloom
Jun 18 2018 at 3:35pm
I’m glad to see that Lester has addressed some of the issues that I raised in my comment to your earlier post, David. I raised the issue as to how the tariff rates cited in your post were arrived at, but I didn’t get a response. Without an understanding of the methodology used to determine the “tariff rate”, the statistics are worse than meaningless. They give the veneer of accuracy but are ultimately very misleading. The discussion then inevitably descends along predictable political lines. I strongly suspect that in your earlier post the earlier years the “tariff rates” were simple averages and in the most recent year cited weighted averages. That would be important to know, but who knows?
For example, Lester addresses the difference between trade weighted averages and simple averages and brings into the discussion the effect of bilateral agreements under which the rates are typically reciprocal and often zero. In bilateral trade discussions, it is the bilateral relationship and not the average rates (however that is determined) that are most relevant.
Despite the advances Lester offers to the discussion, many issues remain. How could there be, for example, such great disparity between the WTO and World Bank measures? What effect does the trade in services have, if at all, on the discussion of these rates? For example, software and other IT related “products” are typically treated as services and not “goods” for purposes of tariffs. This may have something to do with the recent decline in “average rates”.
When it comes to “tariff rates”, the adage of Alexander Pope in his “Essay on Criticism” should apply: “A little learning is a dang’rous thing; / Drink deep, or taste not the Pierian spring.”
Brian C.
Jun 19 2018 at 10:29am
I thought western countries usually substitute tariffs with subsidies and regulation.
No?
David Henderson
Jun 19 2018 at 2:34pm
Which specific regulations and subsidies do you have in mind? Without knowing that, I can’t do justice to your question.
Alan Goldhammer
Jun 19 2018 at 10:53am
The key question to me is what the tariffs will do to the economy in terms of inflation and uncertainty on the part of corporations. Will farmers take a big hit and if so will there be sentiment to bail them out. The stock market is already voting in a negative way.
Hazel Meade
Jun 19 2018 at 12:17pm
I think it is noteworthy that the countries with the most prosperous economies (New Zealand and Australia are doing pretty well!) generally have *lower* tariffs than the less prosperous ones (i.e. Mexico, China, Brazil). This is not surprising. In fact it is exactly what economic theory would predict. Tariffs impose harms on domestic consumers, raise prices and result in a reduction in economic efficiency. Americans benefit from low taxes on imports, while the harms of other countries trade barriers are largely imposed on their own consumers. The orthodox position has thus always been that unilaterally eliminating all import restrictions would be optimal from a purely domestic perspective. There would be a net gain to the global economy if other people’s barriers were also lowered, but the gains to Americans of doing that would be relatively small. Most of the gains we get just by not taxing our own consumers when they buy foreign products. So it’s not a surprise that the countries with the highest tariff rates are the worst off.
Fred Foldvary
Jun 19 2018 at 3:13pm
Another tax barrier is the differential treatment of value-added and income taxes. By WTO rules, countries with VAT may subtract the tax from exports, but countries such as the USA with income taxes rather than VAT may not. Hence WTO rules give VAT countries an artificial competitive advantage for exports.
Pierre Lemieux
Jun 20 2018 at 12:13pm
I don’t think this is correct, @Fred. A VAT applies to everything that is consumed (final consumption) in a country, whether produced domestically or imported. The VAT is not subtracted from exports; it is simply not charged on then because they are not domestic consumption. Discrimination is the essence of protectionism, and there is none there. But there would be if the state of the importing country charged a tax on imports that is not charged on domestically produced goods.
Vivian Darkbloom
Jun 20 2018 at 12:47pm
@Pierre Lemieux
I don’t think that was Fred’s point. The EU raises very substantial income from VAT. In fact, they raise more from VAT than from income taxes. Were it not for the VAT (in order to achieve the same level of revenue), they would need to substantially raise income taxes, including, quite likely, the corporate income tax. Ask yourself this: If the EU were to have to raise their corporate income tax rates by, say, 5-10 percent to replace (some of) the current VAT revenue, would EU-based companies be as competitive vis-a-vis their US counterparts?
Yes, on its face, the VAT is “neutral” and is not per se discriminatory; however, it gives substantial competitive advantage to EU based companies. The US would be well-served to join them.
Vivian Darkbloom
Jun 20 2018 at 1:03pm
Another point I should have mentioned in the prior comment: It is not just the corporate income tax rate that would need to be raised in order to replace income raised by VAT. It would be a combination of corporate income tax and taxes on labor. Both are costs of production that are not neutral to the place of production.
If you consider the alternative, the VAT *does* act somewhat like an import duty in its effect on competition because it avoids otherwise non-neutral taxes that fall on the place of production. In this respect, Fred is entirely correct.
Even if Trump is correct about some of our bilateral trade relationships, the best thing he could do to change the competitive landscape would be to enact a substantial US federal consumption tax and lower other taxes that are *not* neutral.
Pierre Lemieux
Jun 22 2018 at 12:50am
@Vivian: I don’t clearly see your second point either. Labor taxes are partly paid by labor, depending on the elasticity of the demand for and supply of labor. Anyway, a government could always change it tax mix in some way that would affect something in the economy and, therefore, affect imports and exports in some way. Or it could change its education expenditures in a way that would impact the productivity of some workers and change the marginal costs of some businesses. For example, public expenditures on education are higher in the US than in Germany (in proportion of GDP). Can we conclude that (assuming these expenditures increase the productivity of American employees) this is equivalent to a negative tariff (a subsidy)? We can extend this line of argument by saying that regulations and taxes, as unfortunate some find them, are part of the comparative advantage landscape: see my previous post at http://www.econlib.org/archives/2017/11/taking_comparat.html.
Pierre Lemieux
Jun 22 2018 at 12:33am
@Vivian: The corporate tax rate is not an excise tax, so I don’t see how it can affect “competitivity.”
Hartmut Fischer
Jun 22 2018 at 5:28am
It is true that the VAT does not discriminate between domestic and imported goods but I do have two questions.
1. If the Europeans levy a VAT tax on imports then they are taxing the value addition in the country where these imports are being produced. So they are taxing foreign labor and the money goes into the VAT country’s coffers. That does seem unfair. Also does that not make it more expensive to produce in the exporting country?
2. I understand that exporters in VAT countries receive a rebate of the VAT tax. Whenever I go to Germany and buy an expensive item the tax is rebated and makes the good aprox. 20% cheaper. The same is true for companies that export. It thus means that exports can be sold 20% cheaper abroad than at home? Does this not amount to dumping?
Vivian Darkbloom
Jun 22 2018 at 9:46am
@ Lemieux
“The corporate tax rate is not an excise tax, so I don’t see how it can affect “competitivity.”
Not sure what you mean by “competitivity”, but let’s assume you meant competitiveness. I don’t know how much simpler I can put this, but companies (and their investors) seek to acheive an after-tax return. Therefore, in order to achieve the same (or nearly the same) after-tax return, a corporation suffering a higher corporate income tax needs to raise the cost of goods it sells. Likewise, workers also seek after-tax wages. A part of the tax on labor ends up as a cost of production. For example, do you think 100 percent of the “employer portion” of US social security doesn’t enter into the cost of production and is not reflected in goods US firms seek to export? Frankly, I don’t even see how that is debatable, but perhaps you can elaborate on why you, presumably an economist, think they are not.
Pierre Lemieux
Jun 25 2018 at 12:29am
@Vivian Darkbloom: Yes, what you say is debatable. In fact, it contradicts more than a century of economic analysis, going back to Marshall. (“Competitivity” was indeed a Gallicism for “competitiveness.”
To have an impact on the price of a product, something must be part of the industry marginal cost. Profits are a residual, so they are not part of marginal cost in the short run. The cost of capital (normal profit) is part of both long-run marginal and average costs. If you want to argue that something increases the price of a good, you must explain how it enters into the industry’s marginal cost curve (or else, of course, how demand changes). I don’t know to which extent you are familiar with economic theory, but you can see supply and demand curves in a previous post of mine. Expressed very simply and imperfectly, anything that does impact the cost of producing one more unit will not have any impact of the price, for the firm already charged as much as it could. Again very simply and imperfectly, if a firm could pass on a higher corporate tax to the consumers, it would not worry at all what the rate is.
You must also work with supply and demand (of labor) to see the impact of a tax on labor. This bit is a bit more complicated technically. But to see very simply and imperfectly what the argument is, a firm owner doesn’t care if it has to pay the going wage in cash or in benefits, so benefits do not increase marginal cost, ceteris paribus.
Pierre Lemieux
Jun 25 2018 at 1:10am
@Harmut Fisher: (1) No, they are taxing the value consumed by the consumers in the country where the VAT is imposed. Consumers are always the ones who pay the VAT, reimbursing the value added tax paid at each stage of production. Try a numerical example.
(2) This is not correct either. Suppose the world price of a widget is $100; ignore transportation costs. Producers (including wholesalers and retailers) in your VAT-charging country produce it for $100 (otherwise, they won’t find it worth producing it). If there is no VAT, the wholesaler (the last in the domestic chain) exports it for $100, and there is no further problem. If there is a VAT of 20%, the exporting wholesaler (or retailer) must pay $15 (say) more to his suppliers because $15 has been collected during the previous stages of production. The wholesaler cannot get this $15 reimbursed by your country’s consumers because he exports the widget and cannot charge $20 in VAT (which is the sum of the $15 and $5, this last amount being the VAT on value added at the wholesalers last stage). Therefore, your government reimburses the final seller for the $15 that he has effectively paid (to reimburse the earlier stages of production) and would otherwise have recuperated from consumers in your country. Play with a simple numerical example with two stages of production, say hogs and the chops (assume that the hog producer needs no inputs).
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