12 March 2018, 18:04 GMT
US tariffs and international reaction
Today, US president Trump has signed a controversial order to impose a 25% tariff on steel and a 10% tariff on aluminium imported to the United States from outside NAFTA. These measures will impact most heavily trade with the EU, South Korea and Brazil, which are the largest metals exporters to the US apart from Canada and Mexico.
Major trade partners of the US have threatened retaliation: The EU’s trade commissioner Malmstrom has proposed retaliatory measures against a range of food items such as bourbon, peanut butter, cranberries and orange juice, but also on industrial products and steel. China’s foreign minister Wang also threated an “appropriate and necessary response”.
The short-term effect on prices
The immediate effect of these tariffs on US consumer prices will likely be minor. First, imported steel makes up only about 34% of US steel consumption, and imports from outside NAFTA make up less than a quarter. Second, the value of raw steel and aluminium in consumer products is a relatively small share of products’ retail prices: The wholesale price of steel for instance is roughly $600 per tonne, so assuming that a car contains a tonne of steel, and that this steel is all imported, the price increase per car would be around $150 - less than 1% of the retail cost of a new vehicle. New cars make up 3.8% of US CPI - even together with other mostly-metallic items only 5-6% of the US CPI basket is affected. Thus, we get a 1% impact on 5% of the CPI basket in a quarter of the cases - an initial impact that is rather small compared to other drivers of inflation.
The direct impact on aggregate consumer prices in Europe, if there are punitive tariffs on US food items like bourbon or orange juice, would be similarly trivial - impacting a small subset of products in a minor share of the consumption basket - though the market shares and margins of producers of these particular goods would certainly suffer.
The longer-term inflationary impact of a breakdown of trade
The lack of immediate impact masks a much broader trend, however. With the advent of globalisation and the explosion in the number of free trade treaties in the 1990s and 2000s, goods prices in developed economies flatlined as production of both consumer goods like clothing and consumer electronics and industrial raw materials could be sourced on free global market, to the massive benefit of consumers in the US and Europe.
This trend is reversing. Even beyond Trump’s tariffs and the possible retaliation by the EU and China, it is not hard to find high-profile examples of trade barriers being re-erected between nations - Brexit, the US government’s desire to renegotiate or eliminate NAFTA, the halt on TTIP negotiations and the abandonment of TPP are just some that spring to mind. Beyond the headlines, there is also harder evidence in global trade data. The World Bank has shown that the volume of world trade as a percentage of global GDP flatlined five years ago and is now on a declining path.
So while any single measure such as today’s action by President Trump won’t push up CPI significantly, the sum total of these tariffs, the potential responses and the backlash against free trade in many other areas will inevitably drive prices up by reversing the trend of internationalisation and offshoring. While many advocates of protectionism in the US and Europe would welcome this development on the grounds of job creation and national security, it is likely to become a significant upward driver of consumer prices in the developed world.
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