John Locke Update / Research Brief

The Five Losers and One Winner From Protectionism

posted on in Fiscal Insight, Spending & Taxes
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Typically, “saving American jobs” is the reason given for implementing protectionist trade measures, i.e., tariffs and quotas. The argument goes something like this: foreign producers of a product are offering American consumers a more attractive price or better quality product than they can get from American producers of the same product. This can occur for any number of reasons. For example, foreign producers may be more efficient than the American producers. Otherwise, foreign producers may receive subsidies in its home country, thereby allowing it to charge lower prices to American consumers. The fact is that the particular reason will make no difference with respect to the arguments presented here.

The main argument used to defend protectionism is that the less expensive or higher quality foreign products are “costing American jobs.” In other words, if more of these products were produced domestically and fewer were imported, then more people would need to be employed in the American industries manufacturing the product. Hence, if the U.S. imposed an import tariff or quota on the imported product or products, Americans would face higher prices for the imports and purchase fewer products from foreign firms. Conceptually, more of the product would be produced in the U.S., fewer would be imported, and more Americans would work in industries that are directly competing with the imports.

Winners and Losers from Protectionism

The typical argument for protectionism is accurate in that it identifies those American interests that gain from the protectionist policies, but it does so while ignoring those who lose.  In particular, it ignores those whose jobs are put in peril from trade barriers. Here is how the winners and losers from protectionism break down:

The Winner

Economically, as opposed to politically, there is only one winner from protectionism – the domestic industry being protected from competition. Because of reduced competition, the American or domestic industry will produce and sell more at higher prices. So, for example, the American steel and aluminum producers will benefit from the tariffs being imposed on these products by the Trump administration.

The Losers

The American Consumer

Protectionist measures are a tax on all those who purchase a product manufactured by the protected industry. This includes those who purchase the protected product for direct consumption purposes and those who use the protected product as an input into other productions processes.

Import-Using Industries

Since the Trump administration announced that it was going to place 25 and 10 percent tariffs on steel and aluminum, respectively, we have been hearing about its harm to industries like automakers, for which steel is an important input, and beverage producers, which distribute their products in aluminum containers. The fact of the matter is that protectionism drives up the cost of production for industries that use the protected products. As such, it leads to a reduction in the supply of those products, which, in turn, means fewer people are employed in those industries.

Import-Related Industries

The fact is that there are many industries and employment opportunities that exist because we, as consumers, purchase imported products. For example, while unions typically support protectionist trade policies, you will never see the longshoreman’s union endorsing them. These are among the many categories of workers who take a hit when trade falters, regardless of reason, including increased protectionism. Other industries that would be harmed because of protectionism include many parts of the financial industry, retail industries of all kinds (particularly those that serve lower-income families), shipping, and other forms of transport.

Export Industries

It is not unusual to hear claims that protectionism will harm America’s exporting industries because of the possibility of retaliation from other countries. While this is true, the fact is that exporting industries are harmed to the extent that we reduce imports, regardless of whether other countries retaliate against our protectionist policies. This is because, in order to buy products made by U.S. manufacturers or farmers, the rest of the world needs dollars.

Americans are fickle. We are not willing to accept our paychecks denominated in Euro or Yen. The way that the rest of the world, our trading partners, obtain these dollars is by selling stuff to us. To the extent that our protectionist measures prevent American consumers from purchasing the foreign-made products that they would otherwise desire, the rest of the world’s potential purchasing power for products made domestically is also reduced. It should be noted that it also reduces the ability of foreign entrepreneurs to make investments in the U.S.

Unspecifiable (But Real) Losses

The least specific, but maybe most important, losses due to protectionism occur simply because consumers, in general, are left with less purchasing power. With Trump’s steel and aluminum tariffs, for example, people will, as already noted, pay more for automobiles, homes, and beverages, to name just a few items. This means that they will have less to spend elsewhere in the economy. Their overall market basket of goods and services will have to be smaller. Demand for thousands of other products will shrink. These products are not specifiable, however, because they will be different for different consumers.

But simple arithmetic tells us that these reductions in demand will be real. If people spend more on one thing, without an overall increase in their incomes, they will have to spend less on other things. These are truly the hidden costs of protectionism that reduce living standards for nearly everyone. The exception is those who have invested in, or work for, the protected industry. In our example, the steel and aluminum industries benefit.

The effect would be no different if the government imposed a national sales tax and then transferred all of the revenues to one or two privileged industries. As noted by the late Henry Hazlitt,

If we look at it now from the consumer’s point of view, we find that he can buy less with his money. Because he has to pay more for…protected goods, he can buy less of everything else. The general purchasing power of his income has therefore been reduced…[W]hat is clear is that the tariff—though it may increase wages above what they would have been in the protected industries—must on net balance, when all occupations are considered, reduce real wages.

Conclusion

Ultimately, the performance of an economy and society cannot be made better off, on net, through protectionism. Such policies can only result in an expansion of the protected sectors of the economy at the expense of depressing others. Any new employment opportunities that are created in the protected sectors will be more than offset by employment losses in other areas.

The arguments against protectionism and in favor of free trade were put forth by Adam Smith in his 1776 masterpiece, The Wealth of Nations. At the time, he found the arguments for free trade to be so obvious that he thought they were hardly worth stating. As Smith concluded,

In every country it always is and must be the interest of the great body of the people to buy whatever they want of those who sell it cheapest. The proposition is so very manifest that it seems ridiculous to take any pains to prove it; nor could it ever have been called in question, had not the interested sophistry of merchants and manufacturers confounded the common-sense of mankind.

Unfortunately, there is just as much sophistry from merchants and manufacturers (not to mention politicians) today than there was when Smith penned these words.

Roy Cordato is Senior Economist and Resident Scholar at the John Locke Foundation. From January 2001 to March 2017, he held the position of Vice President for Research at the Locke Foundation. He is also an adjunct faculty member in… ...

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