Did tariffs work in the past?
Early this month, US President Donald Trump unveiled a sweeping 10-percent tariff on all imports and higher levies across countries with which the United States has the largest trade deficits. The goal of the said tariffs is to raise tax revenues, reduce trade deficit and spur investments in manufacturing.
In the past, the United States also used tariffs as a tool to protect domestic industries and address trade imbalances. Two significant examples are the McKinley Tariff of 1890 and the Smoot-Hawley Tariff of 1930.
In 1890, the McKinley Tariff was enacted, raising the average duty on imports from 38 percent to nearly 50 percent. Meanwhile, the Smoot-Hawley Tariff Act of 1930 raised US import duties by approximately 20 percent.
Although both had some favorable impact on the US economy such as allowing the tinplate industry to grow significantly in the 1890s, the negative impact was far greater. For example, prices of goods rose significantly during both times, hurting American consumers.
The passage of the Smoot-Hawley Tariffs was also partly blamed for the steep rise in unemployment rate from 8 percent in 1930 to 25 percent from 1932 to 1933.
Smoot-Hawley also triggered retaliatory tariffs from US’ trading partners, which led to the 61-percent decline in exports between 1929 and 1933, hurting export-dependent industries including farmers. Imports also dropped by 66 percent.
Because of the negative impact of higher prices resulting from the McKinley Tariff, voters punished the Republican Party in the 1890 midterm elections, resulting in a dramatic loss of seats in the House of Representatives and allowing Democrats to gain control. It also played a role in the defeat of Republican President Benjamin Harrison by Democrat Grover Cleveland in the 1892 presidential elections.
Once in power, Democrats passed the Wilson-Gorman Tariff Act in 1894, reducing some of the high rates imposed by McKinley’s legislation.
Landslide defeat
Meanwhile, because of worsening economic conditions brought about by the Smoot-Hawley Tariff Act, Republican President Herbert Hoover suffered from a landslide defeat by Democrat Franklin Roosevelt in the 1932 presidential elections. Democrats also gained overwhelming majorities in both houses of Congress.
Although the Smoot-Hawley Tariff Act was never formally repealed, tariffs were slowly reduced starting with the 1934 Reciprocal Trade Agreements Act.
If history were to be our guide, Trump’s goals of raising tax revenues, reducing the trade deficit, and spurring investments in the manufacturing sector by implementing tariffs will not be met.
Retaliation
As early as today, numerous countries have already announced retaliatory tariffs. In fact, China announced it would raise tariffs on US imports to 125 percent. This should hurt the United States’ ability to grow its exports and reduce its trade deficit.
Meanwhile, although revenues from tariffs would increase, the negative impact on import demand would offset some of the benefits of the higher rates.
Moreover, the risk that the United States would suffer from a recession is now much greater because of Trump’s reciprocal tariffs. The risk was highlighted by several financial institutions including JP Morgan and Goldman Sachs. This in turn would negatively affect tax revenue collection.
Finally, because tariffs are unpopular among consumers, there is a risk that Trump’s party would lose control of the government in the next election. If this happens, Trump’s tariffs would most likely be reduced or reversed altogether.
The possible removal of protectionist policies in the next few years would make it difficult for businesses to justify making investments in new manufacturing facilities in the United States. Instead, they would be more inclined to cut costs, which may include increasing layoffs, thus going against Trump’s objective for increasing tariffs.
