A new paper has been written exploring the macro-economic effects of tariffs. The paper has been wrongly picked up by some people as saying that tariffs don’t cause higher prices and they ignore what the paper does say about other negative economic effects of tariffs. The effect of tariffs on the larger economy are difficult to assess, as there are many moving parts, multiple policies are changing and various events can affect production and demand factors. Inflation statistics are generally given as economy-wide, not specific to a product or service, although you can find breakdowns of those. It is completely consistent for tariffs to cause higher prices on the products they apply to, but not cause general inflation. If the money supply and total demand is held constant, then spending more on one item would likely mean less of that unit is bought, or if the same amount is purchased, then less of something else is purchased. Total demand is likely the same or lower, meaning that the ability to raise prices on non-tariffed items is reduced.
The researchers looked at the consequences or various tariff changes in the US and other countries over the last 150 years. The big picture findings were that following the introduction of tariffs by a country, total inflation actually was lower, but unemployment was higher. The authors believe this reflects an aggregate demand effect, driven by the higher prices on some goods, uncertainty about price directions among consumers and a possible wealth effect as asset prices are impacted by higher tariffs. (FRB Paper)
Unfortunately for the administration in power at any point in time, consumers are highly sensitized to the prices of certain items, especially food, gas, utilities, housing and medical care. So while the overall pace of inflation may be moderate, higher prices on certain items disportionately affects their perception of that total inflation. And other aspects of tariffs may cause economic concerns. As the study suggests, higher prices means lower total demand, reducing production and income, leading to job losses. That also tends to reduce inflation, as it is harder to raise prices in this environment.
This negative impact on overall inflation, if the research is accurate, doesn’t mean tariffs are good–the total economic effect is quite bad in fact. My view remains the same. We should be vigilant for unfair trade practices–excessive government subsidies or pricing exports below cost. We should insist on reciprocal trade barriers or the lack thereof. We should ensure domestic or very friendly nation production of certain critical goods and services–drugs and medical devices; rare earth minerals and magnets, defense-related items and so on. Outside of clear justifications like these, the freer trade is the better for our consumers and those around the world.
