Sunday, October 7, 2018

Trump’s Economic Nationalism, Two Years In

By Roy C. Smith

Last week, Peter Navarro, Assistant to the President for Trade and Manufacturing Policy, published an op-ed in The New York Times, entitled “Our Economic Security at Risk.” The piece elaborated on Mr. Trump’s “maxim” that “economic security is national security,” by adding that economic security depends on a strong manufacturing base and trade policies that protect certain industries and attempt to turn past deficits to surpluses.

Few would argue that national security needs to be based on a strong economy, which reflects growth, prosperity and wealth, but also few would agree with Mr. Navarro that economic strength today derives from mercantilism and economic nationalism, two policy ideas now long out of date.

“Mercantilism” was the economic policy of Britain and other European countries in the 17th and 18th centuries, that was largely based on the idea that exports should be maximized to increase bullion reserves and thus national power and prestige. It was a zero-sum game rooted in colonialism. Mercantilism faded into “economic nationalism” in the 19th and 20th centuries in which governments intervened extensively in economic activity through tariffs and other means to protect local industries and boost defense spending that turned into arms races to showcase military power. Economic nationalism created a lot of conflict in the global economic system that contributed to both World Wars.

Indeed, after WWII, the allied powers chose to create new institutions to avoid such conflicts in the future and provide for a world of shared economic success through trade enhancement and financial stability.  These new institutions included a global currency accord, the IMF and the World Bank, the United Nations, and the World Trade Organization. The economic policy that emerged was one of global economic activity based on the common principles of free markets, free exchange of currencies, and the personal freedoms provided by democracies that stimulate innovation.

As a result, world trade has grown from 20% of world GDP in 1960 to 60% today. Trade in the US has grown from 5% of GDP to 25%. Twenty-eight European countries have joined the European Union devoted to a single, tariff free marketplace, with free passage among the countries of people, money and ideas. The economic prosperity of the West (and its ability to outspend the USSR on national defense) led to the collapse of the Soviet Bloc and end the 45-year Cold War. This event motivated an isolated, backward Communist China to change policies to become part of the global open-market economic system. Thus, China enjoyed extraordinary growth lifting half a billion people out of poverty.

In his article, Mr. Navarro cites a number of Trump economic achievements that have improved national security. The 2017 tax cuts, a “wave of deregulation,” “buy America programs,” and a major boost in defense spending led the way, he said, followed by “tough steps on trade,” and most recently, a Department of Defense report that highlights “vulnerabilities” in national defense caused by a declining manufacturing base and looming labor shortages that Mr. Trump pledges to remove by further applications of nationalistic industrial policies.

Economic policies have to be judged by their outcome. Two years since the Trump election, how have these turned out so far?

The $1.5 trillion tax cuts and $1.3 trillion increased spending in 2017 were Keynesian actions missuited to the times – the economy was already recovering nicely, capital was being expended and unemployment was low, so the stimulus would likely result in increased prices for goods and assets (including stocks), which is what has happened – inflation for 2018 is estimated to be 3%, up from 2.1% a year earlier. The tax savings received by most Americans were nullified by increased inflation. But fiscal stimulus did increase the federal debt levels by about $1 trillion, and will push this year’s annual fiscal deficit to about 5%, double what it was in 2015.

The tax cuts were largely a windfall for the private sector that had limited plans for increased investment and used much of the money ($1 trillion estimated for 2018) for stock buybacks and dividend increases instead of additional job-creating capital expenditures. Labor shortages, of course, have been increased by the Trump immigration policies.

The wave of deregulation, mostly in environmental sectors, has been met with a wave of litigation that has slowed it considerably. The Defense Dept. budget is already pretty big - $716 billion for 2019, 54% of fiscal discretionary spending, far greater than any collection of countries that might threaten the US. The budget we have now enables the US to deploy troops in 150 countries. 

Tough steps on trade, Mr. Navarro’s specialty, have so far accomplished little to aid growth, but have created considerable confusion and uncertainty in the world economic sector. Some say these steps are necessary and will force concessions by trading partners that have been “ripping us off.” Judged by the modest net changes in the trade agreements with Korea and NAFTA, both of which were renegotiated this year, neither was worth the rancor and bad feelings with important neighbors and trade partners. But steel, aluminum, and maybe car tariffs still threaten the EU and Japan, and have raised prices in the US, and our standoff with China may cause serious reductions in the growth rates in both countries before things are settled.

Indeed, a recent economic forecast for 2018-2020 prepared by the Federal Reserve shows US growth this year to be 3.1%, but shrinking in 2019 to 2.5% and to 2.0 % in 2020, far from Mr. Trump’s announced long-term goal of 3.5% to 4.0%.

One reason why: mercantilism doesn’t work anymore. Acting as if it did only make business forecasting and planning more difficult. China’s exports to the US include essential parts for American supply chains (which helps to maintain US corporate competitiveness with global rivals) as well as low-price goods made available to American consumers by American retailers. And, almost all of China’s and Japan’s, Korea’s and other country’s trade surpluses are reinvested in US Treasury and other securities, so the money actually comes back. Indeed, trade deficits don’t last forever with one country - China’s success, for example, forces higher prices for local land, utilities and labor, which shifts business to other places like Viet Nam. Also, China will export less and import more as it transitions to a consumer-driven economy, much as Japan did in the 1980s.

Bob Woodward’s recent book, Fear, on the Trump White House reported a conversation in which Gary Cohn, then Chairman of the National Economic Council, was trying to talk Mr. Trump into softening his views on trade. According to Woodward, Mr. Trump told Cohn that he had held his views on trade and manufacturing for 30 years, and if Cohn didn’t agree with them then Cohn was simply wrong.

All the trade angst is unnecessary. The WTO provides mechanisms for dispute resolution, and linking the US, the EU and Japan together to curtail China’s economic nationalism would have been a better, more compelling way to deal with it. Accepting the 12-country Trans Pacific Partnership accord would have been another source of leverage on China, available without pushing China into a one-on-one standoff with the US.

The heavy-handed Trump approach is wrong-headed and out of date, but it may yet work. The US market is very important to all its trade partners so they may be willing to put up with some one-sided demands, especially if they are no more burdensome than those imposed on Korea, Mexico and Canada. But the EU and China, in particular, are capable of significant retaliation and their domestic politics may require them to use it. Neither has to buy US soya-beans or other agricultural products, or airplanes, LNG, or computers. They can develop their own industries and cooperate with each other, isolating the US, and they can undermine US sanctions and other pressuring policies applicable to Russia, Iran, North Korea and others.

Messing with the big boys is an entirely different game.


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