Donald Trump's assault on trade is escalating. First the foes were China and Mexico. Now it is the world.
The Trump transition team has mooted an import tariff of 10 per cent across the board, doubling down on earlier talk of a 5 per cent tax. Such thinking is of a different character to Mr Trump's campaign rhetoric, which mostly hinted at trade sanctions to force concessions.
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A catch-all tariff is a change of belief systems. It overthrows the free trade order that has been upheld and policed by Washington since the 1940s.
Congress cannot stop Mr Trump imposing his will by "executive action" under existing US law. The president may impose tariffs of up to 15 per cent for 150 days without having to demonstrate any damage. All he has to do is utter the words "macroeconomic imbalances", or invoke "national security", and he can do what he wants.
The thrust is becoming all too clear. Mr Trump's choice of leader of the White House National Trade Council is a virulent Sinophobe. Without wishing to caricature Peter Navarro, there is a relentless consistency to his work: The Coming China Wars, Death by China: Confronting the Dragon, and Crouching Tiger: What China's Militarism Means for the World.
This is a strategist who thinks that the US is engaged in Hobbesian fight to the finish with a vicious and authoritarian China. By the magic of cognitive dissonance he also thinks the Chinese system is about to "implode", and that the US should hurry this process along by tightening the economic noose and by launching an arms race in the Pacific - much as the Reagan Doctrine supposedly broke the back of the Soviet Union in the 1980s.
Markets are still behaving as if they will get the "good Trump" (tax cuts and fiscal stimulus) rather than the "bad Trump" (trade wars), despite mounting evidence to the contrary.
In fairness to the Trump camp, we should not be beguiled too easily by free trade pieties, or fall for the canard that the Smoot-Hawley Tariff Act of 1930 caused the Great Depression. It could not possibly have done the damage so often claimed. The US economy was closed in the 1920s. Any trade effect was far too small to bring about a 26 per cent collapse in American GDP.
Few economists would dispute that the US Federal Reserve caused the slump by allowing the money supply to contract, and that this was then transmitted globally by the deformed structure of the Gold Standard in the inter-war years. Protectionism was the consequence.
What trade barriers did do was to shift the relative advantage from surplus to deficit countries. Britain recovered quickly once it broke free of the Gold Standard and retreated behind Imperial Preference.
Personally, I have always been a free trader but there are self-evidently winners and losers. Nor is the raw "Smithian" measure of efficiency - or GDP growth - the relevant metric in a civilisational contest. What matters is power.
Trump's plan 'economically absurd'
Yet the Trump trade plan does not ultimately add up. It is economically absurd. His fiscal expansion will boost the budget deficit and this will automatically reduce the US savings rate. Such a policy must lead to an increase in capital inflows, and therefore to a greater trade deficit to offset them through the mechanism of a stronger dollar. There is no way around this accounting truism.
As for Mr Navarro's diatribes against China, they are a decade out of date. Beijing undoubtedly held down its exchange rate to gain export share early in its catch-up phase, gaming the global system with a hard-nosed ruthlessness.
A trio of academics argue in The China Shock that the country's rise as a global power not only induced "an epochal shift in patterns of world trade", but also discredited standard trade theory that labour markets adapt easily. The seminal study by David Dorn, David Autor and Gordon Hanson shows that this shock was shattering for those workers and sectors in developed countries facing the brunt of the storm.
"These results should cause us to rethink the short and medium-run gains from trade," they said.
But we are now in a different phase. The one-off shock of absorbing China has largely occurred. The country is shifting from export-led growth to a consumer economy driven by internal demand.
Chinese wages have been soaring at double-digit rates. The yuan is no longer over-valued. Beijing has burned through $US1 trillion of foreign reserves trying to stop the exchange rate falling as capital leaks out of the country.
The world's problem
The risk is that Mr Trump will detonate a crisis in China and cause capital flight to spin out of control, with global contagion. We had a foretaste of this a year ago. China's $US30 trillion debt edifice has become the world's problem.
As for those like Mr Navarro bracing for a superpower showdown, their grim vision may prove self-fulfilling. Some think that Mr Trump's Washington is walking straight into the "Thucydides Trap" in its handling of China.
The Greek historian argued that the rise of Athens was a mortal threat to established Sparta, and led ineluctably to the Peloponnesian War [a war clouded by passions like fear, hubris and pride].
A Harvard study of 16 such hegemonic rivalries over the last 500 years found that three-quarters ended in war, with the clinching example said to be the Anglo-German battle for global mastery before 1914.
Whether or not the First World War really fits this schema is an open question. And note that Sparta - not Athens - won the Peloponnesian War. But there is no doubt that we are entering very dangerous waters.
The Daily Telegraph, London
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