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Trade War
Reviewed by James Chen
Updated May 10, 2019
A trade war occurs when one country (Country A) raises tariffs (a tax or duty) on another country’s (Country B) imports in retaliation for Country B raising tariffs on Country A's imports.
Trade wars are a side effect of protectionism, government actions and policies that restrict international trade, generally with the intent of shielding local businesses and jobs from foreign competition, or of righting trade deficits (a country's imports exceeding its exports).
The Basics of a Trade War
Trade wars can commence if one country perceives another country's trading practices to be unfair or when domestic trade unions or industry lobbyists pressure politicians to make imported goods less attractive to consumers. Trade wars are also often a result of a misunderstanding of the widespread benefits of free trade.
A trade war that begins in one sector can grow to affect other sectors. Likewise, a trade war that begins between two countries can affect other countries not initially involved in the trade war. As noted above a trade war can result from a protectionist penchant.
A trade war is distinct from other actions (e.g. sanctions) that have detrimental effects on the trading relationship between two countries in that its goals are related specifically to trade. Sanctions, for example, may also have humanitarian goals. In addition to tariffs, protectionist policies can be implemented by placing a cap on import quotas, setting clear product standards, or implementing government subsidies for U.S. processes to deter outsourcing.
key takeaways
A trade war occurs when country A raises tariffs on country B's imports in retaliation for B raising tariffs on A's imports.
Trade wars are a side effect of protectionist policies.
Trade wars are controversial: Advocates say they protect and provide advantages to domestic businesses; critics claim they ultimately hurt local companies, consumers, and the economy.
The Pros and Cons of a Trade War
The advantages and disadvantages of trade wars in particular, and protectionism in general, are the subjects of fierce debate.
Proponents of protectionism argue that well-crafted policies provide competitive advantages: by blocking or discouraging imports, they throw more business domestic producers' way, which ultimately creates more jobs. They can also serve to overcome a trade deficit. While painful, tariffs and trade wars may also be the only effective way to deal with a nation that behaves unfairly or unethically in its trading policies.
Pros
Protects domestic companies from unfair competition
Increases demand for domestic goods
Promotes local job growth
Improves trade deficits
Punishes nation with unethical trade policies
Cons
Increases costs and induces inflation
Causes marketplace shortages, reduces choice
Discourages trade
Slows economic growth
Hurts diplomatic relations, cultural exchange
Critics argue that protectionism often hurts the people it is intended to protect long-term by choking off markets, and slowing economic growth and cultural exchange. Consumers have less choice in the marketplace; they may even face shortages if there is no ready domestic substitute for the imported goods that tariffs have impacted or eliminated. Having to pay more for raw materials hurts manufacturers' profit margins. As a result, trade wars can lead to price increases—with manufactured goods in particular becoming more expensive—sparking inflation in the local economy overall.
Real World Example of a Trade War
While running for President in 2016, President Donald Trump expressed his disdain for many current trade agreements, promising to bring manufacturing jobs back to the United States from other nations where they have been outsourced, such as China and India. After his election, he embarked on a protectionist campaign; he also threatened to pull the U.S. out of the World Trade Organization (WTO), an impartial, international entity that regulates and arbitrates trade among the 164 countries that belong to it.
In early 2018, President Trump stepped up his efforts, particularly against China, threatening a big fine over alleged IP theft and significant tariffs on $500 billion worth of Chinese products such as steel and soy. The Chinese retaliated with a 25% tax on over 100 U.S. products. Throughout the year, the two nations continued to threaten each other, releasing lists of proposed tariffs on various goods. In September, the U.S. implemented 10% tariffs, though only on approximately $250 billion worth of goods. Although China responded with tariffs of its own, the American duties did have an impact on the Chinese economy, hurting manufacturers and causing a slowdown.
In December, each nation agreed to halt in imposing any new taxes. The tariff war cease-fire continued into 2019. In the spring, China and the U.S. actually seemed on the verge of a trade agreement.
But at the beginning of May, literally less than a week before final talks were slated to begin, Chinese officials took a new hard line in negotiations, refusing to make changes in their company-subsidizing laws and insisting on the lifting of the current tariffs. Angered by this apparent backtracking, the President doubled down, announcing on May 5 that he was going to increase tariffs from 10% to 25% on $200 billion worth of Chinese imports, as of May 10. He may have felt emboldened by the fact that the U.S. trade deficit with China had fallen to its lowest level in 2014.
As of May 9, the trade talks between the two nations were still on, however.
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