Our trade war, fought with tariffs on imports, is making inflation worse | Peter Crabb
We’re still fighting the last war — a trade war.
Despite a change in administrations, the U.S. continues to raise prices for consumers with elevated tariffs on imported goods. This month the Bureau of Labor Statistics reported that consumer inflation rose 4.2% over last year, the largest 12-month increase since 2008.
Tariffs imposed on goods from Canada, China, and other countries over the past few years contribute to this inflation.
No one wins these battles. If the U.S. economy is going to continue its rebound from the lockdowns, policymakers need to free up trade in all goods and services.
The known benefits of open trade across borders go back centuries. In the seminal book on economics, An Inquiry into the Nature and Causes of the Wealth of Nations, Adam Smith explained the benefit to all when we specialize and trade. Not long afterward, David Ricardo formalized the argument in what is now called the theory of comparative advantage.
To explain, consider a simple parable of two neighbors likely to be at home in Idaho: a cattle rancher and a potato farmer.
Each of these Idahoans wants to consume both potatoes and meat. The farmer could raise cattle and grow potatoes but may not be good with animals. Similarly, the rancher is free to grow potatoes in addition to raising cattle, but the soil on the ranch may not be well suited for this crop. Comparative advantage explains the benefits they will get by specializing and trading.
Suppose the farmer and rancher both work a full day, splitting their time between growing potatoes and raising cattle. Maximizing their efforts, the farmer produces and consumes 16 pounds of potatoes and 4 pounds of meat each period, while the rancher produces and consumes 24 pounds of potatoes and 12 pounds of meat.
Notice that the rancher in this story is three times more effective at raising meat, but only 1.5 times more effective growing potatoes. This relative difference is the source of comparative advantage.
If the farmer specializes in the production of potatoes and then trades with the rancher for meat, there will be more for both. The farmer now puts all effort towards growing potatoes and gets 32 pounds. Meanwhile, the rancher breaks up the day producing meat and potatoes, and gets 18 and 12 pounds, respectively.
If the rancher trades 5 pounds of meat for 15 pounds of potatoes he or she has more to consume, 13 pounds of meat and 27 pounds of potatoes. So too for the farmer, who can now consume 17 pounds of potatoes and 5 pounds of meat. Both the farmer and the rancher are now consuming above their non-trade levels.
While the win-win result of this economic theory is fairly straightforward, the empirical facts are even more telling; data from the Canada’s Fraser Institute shows that those countries with the highest freedom to trade have average incomes nearly seven times those that restrict trade.
Idaho should champion international trade. According to the Idaho Department of Commerce, Idaho companies sell to more than 156 countries. But the benefits of these sales are unlikely to grow, or may even be lost, if tariffs remain in place.
End the trade war, and everybody wins.
Peter Crabb is a professor of finance and economics at Northwest Nazarene University in Nampa. prcrabb@nnu.edu
