What is Going on With These Tariffs?
My attempt to explain the Trump administration's objectives and the strategy behind the tariffs
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As frequent readers of the newsletter probably know, I am a big fan of former UCLA economist Earl Thompson. One of the reasons that I have an appreciation for Earl and his work is that his primary motivation in studying economics was to understand the world as it is. This meant that Earl would typically look at policies or institutions that people argued need to be repealed or replaced and he would try to understand those policies and institutions. He frequently came up with explanation, but his work was often labeled as provocative or eccentric. Even Armen Alchian, in praising Earl’s work, referred to it as turning our understandings upside down. Yet, Earl always presented empirical patterns consistent with his theory, but hard to explain by other conventional explanations. Even if you thought he was wrong, he challenged you to think carefully.
I would like to believe that I have committed myself to this same process. I try to understand the world as it is. If there is something that seems wrong or just not quite right, my view is that the correct way to proceed is to dig in and try to figure out what I am missing. What costs or constraints am I ignoring? Do I misunderstand the objectives of the policy? As an economist, I see this as an important part of my job. If I don’t fully understand the context in which people are acting, how can I be certain that they are making a mistake? This applies to everyday economic decisions as well as to policymakers.
With that as a background, I would like to offer a view on the Trump administration’s use of tariff policy. Many people who have seen the administration’s proclivity to use tariffs have been quite critical of this approach. That is likely because, generally speaking, economists typically don’t see tariffs as a particularly valuable policy tool for certain stated goals associated with such policies (e.g., reduce the trade deficit, tax foreigners, etc.). Nonetheless, I think that there are several real world issues that are ignored by conventional analysis of tariffs and that, at the very least, understanding these other costs and constraints is important for understanding the motivation of policymakers. By understanding these additional issues and the motivation of policymakers, we are then better able to assess whether the objectives might be achieved.
With that in mind, let’s dig in to both the conventional analysis and what I believe is missing.
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