Understanding a Trade War

A trade war happens when one country retaliates against another by raising import tariffs or placing other restrictions on the other country's imports.

Trade wars can commence if one country perceives that a competitor nation has unfair trading practices. Domestic trade unions or industry lobbyists can place pressure on politicians to make imported goods less attractive to consumers, pushing international policy towards a trade war. Also, trade wars are often a result of a misunderstanding of the widespread benefits of free trade.

Trade wars are usually considered a side effect of protectionism. Protectionism refers to government actions and policies that restrict international trade. A country will generally undertake protectionist actions with the intent of shielding domestic businesses and jobs from foreign competition. Protectionism is also a method used to balance trade deficits. A trade deficit occurs when a country's imports exceed the amount of its exports. A tariff is a tax or duty imposed on the goods imported into a nation. In a global economy, a trade war can become very damaging to consumers and businesses of both nations, and the contagion can grow to affect many aspects of both economies.

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 processes to deter outsourcing.

Trade wars are not an invention of modern society. Such battles have been going on for as long as nations have conducted trade with one another. For example, colonial powers fought with each other over the right to trade exclusively with overseas colonies in the 17th century.

The British Empire has a long history of such trade battles. An example can be seen in the opium wars of the 19th century with China. The British had been sending Indian-produced opium into China for years. The Chinese emperor had decreed it to be illegal. Attempts to settle the conflict failed, and the emperor eventually sent troops to confiscate the drugs. However, the might of the British navy prevailed, and China conceded additional entry of foreign trade into the nation.

 

Source: https://www.financialexecutives.org

The advantages and disadvantages of trade wars, and protectionism in general, are the subjects of fierce and ongoing debate. Proponents of protectionism argue that well-crafted policies provide competitive advantages. By blocking or discouraging imports, protective policies throw more business toward the domestic producers, which ultimately creates more local employment. These policies also try to overcome a trade deficit. Additionally, proponents believe that painful tariffs and trade wars may also be the only effective way to deal with a nation that continues to behave 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 may begin to 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.

So, who wins in a trade war? Where nations are roughly equal in size, no one wins. Why? Retaliatory sanctions negate any benefits. But where one country is rather small, for example, Malaysia compared to the U.S., the likelihood is Malaysia will be on the receiving end of a trade war. Hence, the need for multi-lateral trade arrangements. ASEAN or EU has a better bargaining position with U.S. or China as a grouping than acting individually or bilaterally.

Key takeaways:

• A trade war happens when one country retaliates against another by raising import tariffs or placing other restrictions on the other country's imports.
• Trade wars are a side effect of protectionist policies and are controversial.
• Advocates say trade wars protect national interests and provide advantages to domestic businesses.
• Critics of trade wars claim they ultimately hurt local companies, consumers, and the economy.

 

Reference:

What is a Trade War (https://www.investopedia.com)