President Trump And Global Trade: How Will Campaign Promises Play Out?

Key Points
• President Donald Trump may soften candidate Trump’s most aggressive campaign-trail proposals on trade.
• If Trump does choose to make good on his anti-trade proposals, the impacts may be negative, but perhaps not enough to trigger a global recession.
• Instead, a deal-maker like Trump may seek to use these threats as negotiating tactics, limiting their direct impact.

Trade among nations is the lifeblood of the global economy, comprising 59% of world gross domestic product (GDP). A sharp contraction resulting from a trade war could tip the world into the next global recession and create a bear market for stocks. So it is important to explore the prospects for global trade under a President Trump.
It is impossible to know exactly what he’ll do. But, like the president who preceded him, he may back away from his most aggressive proposals on trade policy. However, even if he carries out his threats, the consequences may be less damaging than they might at first seem.

Campaign proposals

With Trump in the White House, business leaders’ hopes that the U.S. would ratify the Trans-Pacific Partnership (TPP) or other pending trade deals will die a quick death. While it took President Barack Obama a few years in office to make a turn on trade and ratify new bilateral trade agreements, any new trade deals under Trump seem unlikely. However, it is not clear whether Trump (and the typically pro-trade GOP Congress) will carry out his campaign threat to impose tariffs of 35% on Mexico and 45% on China. He has shied away from specific tariff threats in some of his more recent speeches. His website says only that he commits to blocking the TPP, labeling China a currency manipulator, renegotiating the North American Free Trade Agreement (NAFTA), and will “identify every violation of trade agreements…and end these abuses.”

If Trump does choose to make good on proposals he made during the campaign, the impacts may be negative, but perhaps not enough to trigger a global recession.

First, blocking the TPP is a negative, but more for countries like Japan than the United States, and it may not materially lower growth trajectories for major countries.

Second, labeling China a “currency manipulator” —a technical definition in the Trade Facilitation and Trade Enforcement Act of 2015 that China does not yet meet—doesn’t have immediate consequences. The Act directs the president to engage with our trading partners, propose actions, and impose a variety of penalties if the partner country does nothing. Most penalties involve cutting off development funds provided by the U.S. and asking the International Monetary Fund (IMF), which is charged with preventing currency manipulation, to step in. All this means the U.S. could be in for a long period of talks with China rather than taking immediate and punitive action.

Third, it is unclear whether the president has the authority to impose trade tariffs without the consent of Congress. However, even if tariffs on two countries were put in place they might prove to be relatively ineffective because of the many ways around them.

Finally, an attempt to renegotiate NAFTA could, in practice, prove somewhat modest in scope and drag out for some time.

The effect of higher tariffs

One-third of all U.S. imports come from China or Mexico, but they amount to only 4% of U.S. gross domestic product (GDP). If Trump does impose high tariffs on imports from these two countries, there may be only a small rise in U.S. inflation given their relatively small economic footprint. Also, the Federal Reserve may look past the rise in prices rather than respond with rate hikes. As a result, the U.S. economy may not suffer dramatically as a direct result of these two tariffs.

The imposition of a large U.S. import tariff would likely be worse for Mexico than for China. While China’s exports to the U.S. are equivalent to only 3.7% of its GDP, Mexico’s exports to the U.S. are equivalent to a whopping 27% of its GDP.

The actual impact would depend on how the countries respond to the U.S. tariffs. For example, China could let its currency depreciate more rapidly versus the dollar to offset the tariff.

Smoot-Hawley redux?

It is not clear that if President Trump were to impose aggressive trade policies it would unleash a wave of retaliatory protectionist measures around the world. We think comparisons to the Smoot-Hawley Tariff Act of 1930, which worsened the Great Depression and saw world trade plummet 66% in five years, may be unfounded.

Instead, a deal-maker like Trump may seek to use these threats as negotiating tactics, limiting their direct impact. There are several examples of this approach by past presidents.

In 1971, President Richard Nixon imposed a 10% import tariff that only lasted four months before it persuaded Germany and Japan to let their currencies appreciate against the dollar, allowing it to be removed.

In 1981, President Ronald Reagan, with the support of Congress, used the threat of tariffs to pressure Japan into a voluntary export restriction that lasted until 1994 and protected the U.S. car industry and encouraged Japanese manufacturers to build U.S. plants.

In 1987, President Reagan imposed a 100% tariff on Japanese electronics that effectively stopped Japan’s practice of “dumping” semiconductors in the U.S. within a few months, according to the U.S. Commerce Department.

Trump has praised President Reagan’s use of tariffs as effective negotiating tools. In the current context, threats from the United States may persuade China to scale back the overcapacity in its steel industry.

President Trump may soften candidate Trump’s most aggressive proposals on trade, mitigating risk that the IMF forecast for accelerating global trade next year may turn into a 1930s-style trade war and global recession.