,,,a good historical account of what tariffs portend.
by Eric Fry The History and Economic Impact of Tariffs in America
Tariffs are a toxic economic therapy. Although they can inoculate select industries from foreign competition, they can also cause as many adverse side-effects as a TV-advertised pharmaceutical. In other words, they sometimes do more harm than good.
So now that President-elect Trump is promising to prescribe this therapy in large doses once again, we investors must do our best to capitalize wherever possible, while also avoiding the companies that are most susceptible to the side effects.
On the “pros” side of the T-chart, tariffs shield certain industries from low-priced imports, which promotes job creation and economic growth in those specific industries. But on the “cons” side, we find a range of side-effects like…
Inflated input prices for some manufacturers.
Inflated consumer prices for many products, which reduces consumers’ purchasing power and their overall financial welfare.
Retaliatory tariffs on U.S. products from foreign trading partners.
Widespread knock-on effects like rising inflation and slowing, or negative, economic growth.
Because of this checkered array of “pros” and “cons,” tariffs always receive a mixed response from the populace. Some folks love them; some folks hate them.
Even though tariffs may be helpful for select industries, they never provide a universal benefit, nor are they free. Tariffs are a tax, plain and simple.
Effectively, they are a national sales tax on targeted goods that flow into the country. That means they always add an additional cost to the all-in price of those imported goods, which adds costs to numerous links along the U.S. supply chain.
But to clear up a common misconception, foreign exporters do not pay this tax; U.S. importers do. For example, a U.S.-based auto dealership pays a tariff to U.S. Customs and Border Protection for every Toyota it brings into the United States. No matter how high or low that tariff may be, Toyota Motor Corp. (TM) receives the identical amount of money for each car it ships to the country.
If the U.S. car dealer wants to maintain its profit margins, it must add the cost of the tariff to the sticker price of each Toyota it sells. Therefore, because tariffs raise the all-in price of a Toyota in the U.S., a high tariff makes it more difficult to sell those vehicles. Many American shoppers would opt for a cheaper, U.S.-made vehicle. Eventually, therefore, the number of cars Toyota ships to the U.S. would fall.
That’s the approximate protectionist logic that supports tariffs.
During America’s formative years as an independent nation, tariffs were a necessary economic weapon. They not only protected the country’s fledgling industries from inexpensive British imports, but also provided nearly all the revenues that flowed into the U.S. Treasury.
The first significant tariff act in the U.S. was the Tariff of 1789, passed by the first Congress under the U.S. Constitution. Although this legislation authorized only a modest 5% duty on all imports, it marked the beginning of a long tradition of using tariffs to shape American economic policy.
During the next 141 years, the U.S. implemented numerous tariff acts – beginning with the Tariff of 1816 and ending with the Smoot-Hawley Tariff Act of 1930. Some of these acts boosted import duties, while others lowered them.
As a result, duties fluctuated greatly over the years between high and low levels, depending on the political mood of the moment. Even a cursory review of U.S. tariff legislation highlights this long history of extremes…
The Tariff of 1816 attempted to halt the flood of British goods entering the U.S. following the War of 1812 by imposing high duties on British imports. This legislation raised the average tariff rates from 5% to 40%.
The Tariff of 1828, known as the “Tariff of Abominations” by its Southern detractors, boosted duties on various imports to as much as 60%. From a Southern perspective, these tariffs benefited the industrial northern states, at the expense of raising import prices on numerous goods the South’s agriculture-based economy required. The South’s contempt for this tariff foreshadowed the economic tensions that would contribute to the Civil War.
The Compromise Tariff of 1833 gradually reduced duties to their 1816 level, but the Tariff of 1842 raised them once again.
Then, the Walker Tariff of 1846 slashed average duties to about 25%, and the Tariff of 1857 lowered duties even more, to about 18%.
But just four years later, at the outbreak of the Civil War, import duties soared once again. The Union government passed the Morrill Tariff Act of 1861, which raised duties to 44% on imports into the northern states.
After the Civil War, the Tariff of 1872 kicked off a four-decade era of high protective tariffs that characterized much of U.S. economic policy during the late 19th century.
For example, the McKinley Tariff of 1890, named for then-Congressman William McKinley, raised duties to their highest levels in history. After McKinley became president in 1897, the Dingley Tariff Act boosted duties even higher.
As you might imagine, U.S. industrialists benefited enormously from the McKinley and Dingley tariffs. Most ordinary folks did not. As a result, tariffs came to represent a tool of economic oppression by the elites, and helped drive a massive socio-economic wedge between the working class and the “robber baron” industrialists of the Gilded Age. Tariff Effectiveness
Andrew Carnegie’s rags-to-riches story provides a fascinating insight into the socio-economic tensions that tariffs amplified during the late 1800s. When Carnegie’s first U.S. steel mill entered production in 1874, it produced a ton of steel for about $56. But British steel mills could deliver a ton to US shores for just $31.
Therefore, without tariff protection, Carnegie’s steel was woefully uncompetitive with British imports. But thanks to the tariff legislation of the McKinley era, British steel incurred an import duty of $28 a ton, raising the all-in cost to $59.
Voilà! Carnegie’s steel was competitive.
Over the ensuing years, Carnegie’s mills became increasingly efficient. By 1900, their production cost per ton had fallen to less than $12. Nevertheless, import duties on British steel remained in place, which enabled Carnegie to generate massive profit margins on the steel his mills produced… and become one of the world’s wealthiest individuals in the process.
Not surprisingly, Carnegie donated a small fortune to McKinley’s reelection campaign in 1896 – equivalent to about $20 million in today’s dollars.
To be clear, I am not disparaging Carnegie’s amazing success; I am merely pointing out that he received a major assist from tariff policies that most working-class Americans despised. As a New York Times story from October 1890 relates… Let the facts… tell who it is that pays the onerous tariff taxes. They will answer that the American people pay these taxes, and that the burden of them rests most heavily upon the poor, inasmuch as there are very few of the necessities of life, the prices of which are not increasing on account of the McKinley Tariff.
As contempt for tariffs intensified, and the political winds shifted away from the pro-tariff faction during the early 1900s, import duties fell once gain. Additionally, a new federal revenue source entered the picture when Congress passed the infamous Revenue Act of 1913.
This legislation, which introduced U.S. citizens to the term “income tax,” levied a 1% tax on personal incomes above $3,000, with a 6% surtax on incomes above $500,000.
Although these initial tax rates were low, Congress wasted little time boosting them to much higher levels. As a result, tariffs became a much less important contributor to federal revenues. But they remained a formidable protectionist weapon, which the U.S. deployed once again on the eve of the Great Depression.
In 1930, two well-intentioned U.S. Senators, Reed Smoot and Willis Hawley, sponsored a bill to impose heavy tariffs on more than 20,000 imported goods. The legislation raised average import duties to nearly 60% – a level unseen since the “Tariff of Abominations” a century prior.
Their bill became the law of the land on June 17, 1930. The stock market collapsed almost immediately, and within just two years the market had plummeted more than 80%.
The Smoot-Hawley tariffs do not deserve all of the blame for this epic collapse, nor for the Great Depression that followed on the heels of this legislation. But most economic historians believe the Smoot-Hawley tariffs were a major contributing factor to the Great Depression’s severity and duration.
In other words, the Smoot-Hawley Tariff Act backfired catastrophically. Instead of boosting American industry, it triggered retaliatory tariffs from our trading partners, which caused world trade to collapse. The annual volume of world trade plummeted from almost $3 billion in January 1929 to less than $1 billion in January 1933.
So colossal was the economic disaster that ensued from the Smoot-Hawley Tariff Act, that it became as synonymous with epic failure as the Maginot Line. And the pain these tariffs imposed on the national economy was so severe that Americans feared tariffs and trade wars for decades afterwards. Additionally, since tariffs no longer provided an essential source of government funding, most Americans were happy to do without them. “Tariff Proofing” Our Portfolio
Therefore, since tariffs no longer provided an essential source of federal revenue, trade policy shifted radically from protectionism toward open trade policies. During the post-World War II era, the U.S. became a champion of free trade, including policies like the General Agreement on Tariffs and Trade (GATT) in 1947, which eventually led to the formation of the World Trade Organization (WTO) in 1995.
But as all things old are new again, tariffs are back. President-elect Trump is promising to restore this bygone financial relic… and take it for a spin. Foreign competitors are the target of the President-elects’s prospective suite of trade tariffs, but U.S. consumers could become collateral casualties.
This observation is neither political nor theoretical. It is historical. More than 200 years of tariff history have demonstrated that high import duties can produce both positive and negative impacts… and usually both at the same time.
Because of this split personality, and also because they usually trigger retaliation from trading partners, tariffs can make a mess of supply chains. This risk is rearing its head already.
Earlier this week, Doug Ford, the premier of Ontario, Canada, threatened to cut off energy supplies to the U.S. if President-elect Trump imposes sweeping tariffs on Canadian imports. Ontario also threatens to withhold its electricity exports to the U.S., which powers 1.5 million homes in Michigan, Minnesota, and New York.
On the flipside, tariffs on Canadian imports could raise prices significantly on a number of key products for U.S. businesses and consumers. Nearly $2.7 billion worth of goods and services cross the Canadian border each day.
But as the long history of U.S. tariff policy demonstrates, businesses and consumers never bear their impacts equally. Some folks win; some folks lose.
Therefore, it is imperative to position your portfolio on the winning side, as well as you can.
