ND expert on tariffs and trade policy: ‘How should the U.S. be engaged with the rest of the world?’

Since January, the Trump administration has imposed a host of new tariffs and restrictive trade measures, including tariffs on steel and aluminum and increased levies on imports from China. The administration also issued, and then temporarily paused, sweeping tariffs on Mexico and Canada. In response, the European Union, Canada and China have imposed retaliatory tariffs on U.S. exports.

And there are more tariff announcements still to come: The tariff pause with Mexico and Canada is set to expire on April 2, and the U.S. Department of Commerce is slated to announce its plan for “reciprocal tariffs” in early April.

To make sense of these policy changes, Robert Johnson, the Brian and Jeannelle Brady Associate Professor of Economics at the University of Notre Dame, explained how tariffs affect global economies and what this means for U.S. engagement in global trade.

“There is currently a general reevaluation of the degree to which the U.S. engages in trade with the rest of the world,” Johnson said. “Much of that involves raising tariffs to essentially disengage the U.S. from the global economy, which is a huge and fundamental shift in our trade policy.”

At the same time, Johnson emphasized that the economic costs and benefits of tariffs are different now than in the past, due to the rise of global value chains. In a global value chain, various stages of production — from design and sourcing to manufacturing, marketing and distribution — are executed by different countries. This type of linked and integrated production occurs across borders in many industries, but the North American automobile industry stands out. Cars that are assembled in the U.S. contain large amounts of imported parts, components and materials; likewise, cars assembled in Mexico and imported by the U.S. contain parts and components produced by suppliers in the U.S. Many integral products even pass back and forth across borders multiple times and, if tariffs are in place, get taxed each time.

As a result, Johnson suggested that placing tariffs and sparking trade wars with our neighbors to the north and south can hurt all of us, markets and consumers included, because tariffs can disrupt supply chains, raise prices and threaten job security. The importance of global value chains and trade policy is explained in a forthcoming article in the journal The Review of Economic Studies authored by Johnson, Emily Blanchard of the Tuck School of Business at Dartmouth College, and Chad Bown of the Peterson Institute for International Economics.

“The costs of raising tariffs are higher, and the benefits are lower, than they would have been if U.S. producers were not integrated in global value chains,” Johnson said.

Johnson highlighted three mechanisms by which tariffs hurt U.S. economic interests through these interconnected global trade networks.

Tariffs on imported parts that go into U.S. production

The main objective of tariffs is to get consumers to buy locally, supporting U.S. manufacturing, Johnson said. But from a U.S. producer’s perspective, many companies will still need to import items from either Mexico or Canada to be used in the production of U.S.-made goods. When a tariff is placed on those imported items, it raises the production costs, making them less competitive.

“That reduces the demands for their goods” both at home and abroad, Johnson said, because the companies have higher costs of production. “Tariffs placed on inputs are, writ large, bad for U.S. manufacturing.”

Tariffs on imported finished goods that contain foreign parts

When tariffs are placed on imported finished goods (cars, T-shirts, TVs, etc.), Johnson said, the goal is to shift consumer expenditure from imports to domestically produced goods. Even here, the existence of value chains has important hidden impacts.

While the goal of a tariff might be for consumers to buy more U.S.-assembled cars instead of cars assembled in Mexico, cars assembled in the U.S. use Mexican and Canadian parts, whereas cars assembled in Mexico contain U.S.-made parts. Because U.S. cars contain imported parts, some of the benefits of the tariff leak back to those foreign auto parts suppliers, explained Johnson. “This makes the shift in demand that occurs as a result of raising the tariff less attractive to the government,” he said, “because it’s losing some of the benefits of that tariff to foreign auto parts suppliers.”

Another way to look at it, Johnson said, is that when we raise tariffs on foreign imports in the hopes of increasing the number of cars being assembled in Michigan, some of the value of those assembled cars is actually Canadian. “In effect, we’re helping the Canadian auto parts suppliers. The more of the Canadian value that’s embedded in the Ford, for example, the more of the benefit of the tariff flows back to Canada.”

Using the same example of the auto industry, Johnson said that if a car is assembled in Mexico and there is a tax on imports from that country, then what happens if the Mexico-produced car is made from U.S.-manufactured parts and materials?

“There will be auto parts and engine firms in Ohio or Michigan that are going to be sending those parts and materials to Mexico where they will be used to assemble a car there, and then those cars are going to be re-exported into the U.S.,” Johnson said. “When we tax the car coming across the border from Mexico to the U.S., we’re implicitly taxing the supply of U.S. parts to that Mexican auto assembler firm. So, we’re essentially taxing ourselves.”

Tariffs on multinational firms that include U.S.-owned companies located abroad

The third example of how imposing tariffs can cause global pain is when U.S. firms own foreign companies. For example, Johnson said, if Ford or GM owns an auto assembly plant in Mexico, then it has engaged in foreign direct investment by building that plant. When the U.S. places tariffs on imports from Mexico, then we’re actually hurting GM and Ford because they take in profits from that assembly activity and are directly impacted by the tariff, he said.

“The more globalized the ownership structure is, and the more globalized the value chains are, the less attractive it becomes to raise tariffs,” Johnson said.

Changing technologies affect trade decision-making

There have been tremendous increases in the amount of value chain activity across borders over the last several decades, according to Johnson. Countries weren’t as connected in the 1980s as they are today. Technological changes in communication and information sharing have increased connectivity, as it has become much easier to coordinate production and move goods across borders.

“That has helped to integrate value chains across countries even more deeply,” Johnson said. “And so we’re living in this world now where tariffs have these built-in costs as a result of global value chain integration that they might not have had in the past. The right thing to do in the 1980s would have been very different from what the right thing to do today might be.”

As the new administration grapples with how to leverage tariffs in the U.S.’s favor, Johnson said the current approach to working with Canada and Mexico — considered some of our closest partners — is “untested, to say the least,” and seems contrary to our long-standing interest in cooperation within North America.

“Given that we are in this period of reevaluation, I think it is important to think broadly about how the U.S. should be engaged in the world,” Johnson said. “The U.S. derives enormous benefits from the global trading system, a system that we designed and built in service of U.S. economic and foreign policy interests. I think we ought to pause and reflect on how we have prospered through engagement with partners and allies around the world, before we tear that all up.”

Contact: Tracy DeStazio, associate director of media relations, 574-631-9958 or tdestazi@nd.edu