Photo: Reuters
Photo: Reuters

Opinion | Does trade retaliation make sense?

Any tariff increase will come at a huge cost to India's consumers as well as producers who use imported inputs

Over the last decade, there have been several research pieces, written mainly by Gordon Hanson (University of California–San Diego), David Autor (Massachusetts Institute of Technology) and their collaborators, showing the adverse impact of import competition from China on US jobs, wages and related outcomes. Donald Trump, always a protectionist, found intellectual support in this body of work for his strongly-held belief that “trade is bad". Recently, however, some economists have discovered the beneficial labour-market effects of trade with China through simultaneous increases in US exports and cheap imports of intermediate inputs. One might argue that these research papers have arrived a couple of years too late.

Trump’s rhetoric, since his campaign, has gone after trade in a big way. Besides trade’s negative labour-market impact, Trump has been concerned about US’s growing trade deficit with China, China’s intellectual property theft, the Chinese government’s pressure on foreign firms to transfer technology through joint ventures, dumping, Chinese government’s export subsidization, etc. All of these, according to Trump, epitomize a biased world trading system that is unfair to America. In fact, Trump strangely views international trade as a zero-sum activity, where, if there is a winner, there has to be a loser.

Keeping one of his main campaign promises, Trump so far has announced and implemented several rounds of tariffs, primarily, but not exclusively, aimed at China. His safeguards tariffs of 30% and 20%, respectively, on washing machines and solar panels, were met with Chinese anti-dumping duties on imports of US sorghum as well as complaints to the World Trade Organization (WTO) by both South Korea and China. Trump’s national security tariffs of 10% on aluminum and 25% on steel ironically fell mainly on US allies, as a large proportion of US metal imports from China was already facing anti-dumping duties. China has retaliated with tariffs on aluminum waste and scrap, pork, fruits and nuts, etc. Many countries negotiated exemptions, but those did not last long. After the termination of exemptions, EU has retaliated with 25% tariffs on imports worth $3.2 billion from the US, and Canada has imposed 10-25% tariffs covering $12 billion. China and the US have subsequently entered into several further rounds of retaliation covering over $200 billion, with the US, meanwhile, carrying out the ongoing national security investigations into imports of automobiles and parts.

While India has drawn up a list of goods on which it may want to impose retaliatory tariffs, the only actual recent tariff increases (to typically about 20%), over two rounds (one late last year and then another earlier this year), have been non-retaliatory ones on imports of electronics and related inputs and parts, as well as highly labour-intensive products, such as beauty aids, watches, toys, furniture, footwear and, surprisingly, kites and candles. India might now be tempted to follow the footsteps of China, EU and Canada, and retaliate Trump through further tariff increases. Will such a strategy be optimal for India? Most likely not. Here is why.

Firstly, any tariff increase will come at a huge cost to India’s consumers as well as producers who use imported inputs. As recently argued by Arvind Panagariya (Columbia University), retaliatory tariffs are worth the costs only if they are expected to force Trump into submission to withdraw his tariff hikes. Based on recent experience of retaliating countries, especially China and Canada, that isn’t going to happen. Also, India’s imports from the US are a small fraction of China’s or Canada’s and, consequently, so is India’s ability to inflict harm through retaliation. Besides, Trump seems to love these several rounds of tariffs, retaliation and counter-retaliation, with no regard for the harm caused to his country. He sees a possible, but vaguely defined “win" at the end of the road as the primary motivation for his tariff escalations. The chance of a reversal of tariff hikes is linked to the possibility of a recession in the US. However, even if there was a recession, whether Trump will realize that his protectionism had a role to play in it is another matter.

Recently, Dani Rodrik (Harvard University) advised all trading partners of the US to resist retaliating as that would amount to playing into Trump’s hands and taking part in a game he loves to play. Not playing it would frustrate him. This advice should work well for India. However, I am not sure the same applies to China since its size in world trade makes it a formidable match for the US in a trade war, which could ultimately pressure US into reversing its tariffs hikes. The rest of the world, including India, can then free-ride on China’s efforts, which will also be in its own self-interest. Additional effort at this point from India will just be a drop in the ocean and will not result in any additional gain.

The theory of repeated games has often been used to understand how cooperation between countries, in this case any trade agreement, can be sustained. When a country unilaterally deviates from such a situation to pursue any gain to itself, the threat of a subsequent punishment by the other players, in this case through high tariffs over a long period of time, can sustain cooperation in the form of low or zero tariffs. In this context, not retaliating would prove non-existence of such a threat. In the current climate, China is likely to get away with not waiting for WTO authorization before retaliating. But, retaliation from India, besides being ineffective, could rule out future beneficial deals with the US in other areas, such as defence. It is, thus, optimal for India to be just a spectator in this game, albeit not a silent one, but one that is vocally supporting free trade.

Devashish Mitra is professor of economics and Cramer professor of global affairs at the Maxwell School of Citizenship and Public Affairs, Syracuse University.

Comments are welcome at theirview@livemint.com

Close