Mitchell’s Musings 6-12-17: Trump on Trade: It’s a Puzzlement (or Maybe It Isn’t)

10 Jun 2017 2:37 PM | Daniel Mitchell (Administrator)

Mitchell’s Musings 6-12-17: Trump on Trade: It’s a Puzzlement (or Maybe It Isn’t)


Daniel J.B. Mitchell


In the musical “King and I,” the King of Siam sings about learning of facts that don’t fit into his frame of reference and declares them to be a “puzzlement.”[1] During the 2016 presidential campaign, then-candidate Trump indicated that he would undertake various “protectionist” measures to protect the jobs of American factory workers. University of California-Irvine professor Peter Navarro – who had earlier denounced Chinese trade practices – became an official economic adviser. In the period before the inauguration, but after the election, Trump attracted substantial news media attention by ostensibly intervening personally with the management of various companies to preserve jobs and not outsource abroad.


All of these actions tended to go against establishment Republican pro-free trade beliefs. But Trump would sometimes point to President Ronald Reagan – now a god-like figure in conservative Republican circles – and Reagan’s trade policy.[2] Reagan first came into office in 1981 at a time when the U.S. economy was entering a downturn. In fact, there were two back-to-back recessions that developed, the second of which was quite severe. Indeed, if measured by the unemployment rate, the severity of the Reagan recession was greater than the more recent Great Recession. (See below.)


So if Reagan followed a protectionist policy, and since Trump promised it citing Reagan, why hasn’t he followed through? Even the veiled, and not-so-veiled, threats Trump made about what he would do if companies continued to outsource seem to have disappeared. It’s a puzzlement.


It is even more puzzling when you consider the way Reagan went about his protection arrangements. Trump seems to prefer country-by-country “deals” over multilateral accords. And he believes himself to be a great dealmaker. Reagan didn’t depict himself in that fashion, but his most high profile policy of protection – restricting Japanese car exports to the U.S. – was precisely such a Trump-type deal. Reagan seemed to know about the Art of the Deal, even without having (ghost-) written a book by that title.


Of course, nowadays it’s China, not Japan, playing the role of the chief U.S. trade villain. But the Chinese told Trump that currency manipulation was no longer occurring, and Trump accepted that story and even took credit for it.[3] The general view seems to be that Trump gave up pressuring China on trade in the hope that China will fix his North Korea problem – although it’s not clear that anything like that is likely to occur.

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Civilian Unemployment Rate, seasonally adjusted


Source: U.S. Bureau of Labor Statistics. Note that the 1983 Reagan recession shows an unemployment peak higher than any other post-World War II recession, including the most-recent Great Recession.

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There is a possible explanation for the puzzlement, at least as far as China is concerned, which goes beyond the North Korea issue. Reagan made a deal with Japan for what were called “voluntary export restraints” (VER). There was no official American quota, which would have required Congressional action. Japan agreed “voluntarily” to limit its automobile exports to the U.S. The Japanese government then essentially distributed the quota among the various Japanese auto manufacturers.


One version of the Reagan story is that Japan agreed to the de facto quota system because of fears that if it didn’t agree, Congress would enact something more restrictive. That lesser-of-two-evils motivation could have been part of the reason. But we know something else about the VER arrangement with Japan after the fact. When the Reagan administration later indicated that there was no need for continued voluntary quotas, the Japanese seemed reluctant to give them up. So why, if the threat was over, and if the threat had been the motivation, wouldn’t the Japanese quickly terminate the quota arrangement?


Note that there are only a handful of major brand name Japanese auto manufacturers. They had been established in the U.S., and had developed a degree of brand recognition and loyalty, since the 1960s. In effect, the quota system, by restricting supply, raised the price of Japanese cars in the U.S. (which also benefited competing American brands). The quota system operated as a coordinated Japanese auto cartel, limiting supply but raising the profit markup on each car sold. From the point of view of Japan, reduced competition and higher markups were beneficial. But did the quota system provide a net benefit to Japan? Even if it didn’t, it did provide Japanese auto companies at least an offset to the restriction on market share. And the fact that there was reluctance to give up the VER system when it was no longer required suggests that there may well have been a net benefit to Japan.


Could Trump have reached a comparable deal with China? The problem would have been that Chinese imports are not concentrated in a few brands or product lines that are highly recognizable to American consumers. What is the Toyota equivalent of China products? Maybe Lenovo computers? Imports from China more typically are outsourced arrangements with other, often American, firms. Apple’s iPhone is an example. And there are lots of different products that constitute Chinese exports to the U.S. as opposed to a concentration (as in the Japanese case) on cars.


So a Chinese equivalent of a VER, even if Trump had requested one, seems unworkable. If, say, a VER-type quota was somehow imposed on iPhone imports, who would get the increased markup? Apple or the Chinese manufacturer? Would there even be an increased markup, or would Apple just outsource to some other cheap-labor country?


In theory, China could agree to an export tariff (or some equivalent) on its sales to the U.S. Such an approach might capture some added revenue for China. But there are lots of other low-wage countries in the world that would pick up the slack, so the incentive for China to take such a step is small. Moreover, the idea that if China didn’t impose a restriction on itself, Congress would enact something more restrictive seems far-fetched. There is no indication that the Republican Congress is itching to impose such a restriction.


Bottom line: There is a possible explanation of the puzzlement as to why Trump didn’t make a trade deal with China: Without any leverage, he couldn’t. You don’t need to know much about the Art of the Deal to know that without leverage, there is no deal to be had.

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[1] https://www.youtube.com/watch?v=9u5iHzag120.    

[2] http://money.cnn.com/2016/07/27/news/economy/donald-trump-ronald-reagan-trade-japan/index.html

[3] https://www.washingtonpost.com/news/fact-checker/wp/2017/05/16/president-trumps-evolving-claims-about-when-china-stopped-manipulating-its-currency/

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