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The scaled tariff would resuscitate the U.S. economy

By Raymond Richman, Howard Richman and Jesse Richman
web posted July 19, 2010

In a commentary in the July 5 issue of Business Week (How to Make an American Job Before It's Too Late), Andy Grove, a founder of Intel and its former CEO makes the spectacular prediction that the outsourcing of production of technologically advanced products by our product innovators is an act of economic suicide. He writes:

The great Silicon Valley innovation machine hasn't been creating many jobs of late–unless you are counting Asia, where American technology companies have been adding jobs like mad for years.… Today, manufacturing employment in the U.S. computer industry is about 166,000–lower than it was before the first personal computer, the MITS Altair 2800, was assembled in 1975. Meanwhile, a very effective computer-manufacturing industry has emerged in Asia, employing about 1.5 million workers–factory employees, engineers and managers.… Some 250,000 Foxconn employees in southern China produce Apple's products. Apple, meanwhile, has about 25,000 employees in the U.S.–that means for every Apple worker in the U.S. there are 10 people in China working on iMacs, iPods and iPhones. The same roughly 10-to-1 relationship holds for Dell, disk-drive maker Seagate Technology, and other U.S. tech companies.

American economists viewed this development with benign neglect. Groves cites the following quote by Princeton professor Alan Blinder, a former member of the Council of Economic Advisers under Clinton and member of the Board of Governors of the Federal Reserve System under Greenspan: "The TV manufacturing industry really started here, and at one point employed many workers. But as TV sets became 'just a commodity,' their production moved offshore to locations with much lower wages. And nowadays the number of television sets manufactured in the U.S. is zero. A failure? No, a success." (Italics ours.)

As Groves points out, start-ups are great but if their product gets produced abroad, they make hardly any contribution to the U.S. economy.

To make matters worse, research and development needs to be close to where related products are produced. Groves notes that those countries that specialized in lithium batteries for computers invented and created the lithium batteries now being used in automobiles.

He writes: "As happened with batteries, abandoning today's 'commodity' manufacturing can lock you out of tomorrow's emerging industry." Without U.S. factories to produce innovative products, "we don't just lose jobs–we lose our hold on new technologies. Losing the ability to scale will ultimately damage our capacity to innovate."

He maintains that U.S. businesses must stop outsourcing the production of their products. "If we want to remain a leading economy, we change on our own, or change will continue to be forced upon us." And "If what I'm suggesting sounds protectionist, so be it."

Foreign governments offer great incentives to American manufacturers who choose to locate factories in their territory. They steal our exporting businesses. Then they prevent the new exports from causing their currency to rise by manipulating currency values.

The factories U.S. businesses supposedly own abroad are not U.S. factories. Within five years, nearly all of the managers, superintendents, staff, and foremen will be drawn from the local population. During WWII, German factories in the U.S. became American factories overnight. Lenin is reputed to have justified his New Economic Plan in the early 1920s by saying, that the foreign capitalists will produce the rope that we will hang them with.

The Communist government of China is making no secret of its intentions. Late last year, China announced that companies producing in China will have to move their patents and R&D to China or they would be excluded from selling to China's huge government-controlled sector. They have postponed implementation of this proposal.

Meanwhile, the Obama administration is sabotaging Congress's efforts to address the problem. On July 8, Treasury Secretary Timothy Geithner issued his third semiannual report to Congress that names the countries that are manipulating their currencies. For the third time, he concluded that China is not manipulating its currency.

Geithner's report came just as Senator Schumer's bipartisan Currency Exchange Rate Oversight Reform Bill was about to be brought up. But Schumer's bill relies upon the U.S. Treasury Secretary to identify which countries are manipulating their currencies and identify when those countries have stopped their currency manipulations. It is clear that the Treasury Secretary is incapable of making honest determinations on this subject. Congress needs to create a bill that is based upon facts, not Treasury Secretary determinations.

We have invented an alterative that would work. Our scaled tariff would be an across-the-board tariff on every country that has been engaging in currency manipulation in order to perpetuate trade surpluses. But the tariff rate would be scaled, depending upon our trade deficit with each mercantilist country.

Targeting currency manipulators would enforce the International Monetary Fund Articles of Agreement which require (Article IV) that countries "avoid manipulating exchange rates or the international monetary system in order to prevent effective balance of payments adjustment or to gain an unfair competitive advantage over other members."

A table published in the Treasury report's annex accurately identifies the currency manipulating countries through statistics. The largest culprit is the Chinese government, which had accumulated $2.4 trillion worth of currency reserves by December 2009 as part of its mercantilist strategy of buying foreign currencies in order to keep its own currency undervalued. The Chinese government's recent 1% strengthening of the yuan from 6.83 per dollar to 6.77 does not alter this strategy. The following countries had over $100 billion worth of reserves:

  • China - $2,399 billion
  • Japan - $997 billion
  • Russia - $399 billion
  • Saudi Arabia - $397 billion
  • Taiwan - $348 billion
  • Korea - $265 billion
  • India - $259 billion
  • Brazil - $229 billion
  • Euro Area - $195 billion
  • Singapore - $187 billion

We would scale the tariff rate for each mercantilist country so that it would collect 50% of our trade deficit with that country. The rate would go up when that trade deficit goes up, down when that trade deficit goes down, and go to zero when that trade deficit gets so close to balance that the tariff rate would be under 5%. In order to make it sensitive to changed policies in the mercantilist countries, it should be recalculated each economic quarter, based upon our trade deficit with each country over the most recent four quarters.

Here's how the numbers of our proposal would work with China. In 2009, we imported $305 billion from China, but the Chinese government only let its people import $86 billion from us, creating a trade deficit of $219 billion. An initial tariff rate of 36% on $305 billion of imports from China would be designed to collect $109.5 billion (50% of $219 billion) in tariff revenue if the trade deficit were to continue at the 2009 level. This is just about right, since many economists believe the yuan is undervalued by 40%.

The following is a list of the initial tariffs that would come out of our proposal from the 2009 trade numbers:

  • China – 36%
  • Russia – 35% (estimated from incomplete data)
  • Saudi Arabia – 26%
  • Singapore – 18%
  • India – 12%
  • Japan – 11%
  • Taiwan – 11%
  • Korea – 6%
  • Euro Area – 5%
  • Brazil – 0%

Instead of placing a tariff of 26% on Saudi Arabian exports (mostly oil) to the United States, it would make more sense to place a single tariff (the rate would be 20%) upon all of OPEC's exports, because the OPEC countries act together as a cartel in order to exploit their trading partners. Those OPEC countries that did not want to be subject to the tariff could pull out of the cartel.

The scaled tariff's initial rate of about 36% on Chinese products is similar to the 25% tariff that Nobel prizewinner Prof. Paul Krugman proposed in order to induce China to revalue the yuan. But China would likely respond to Krugman's tariff with counter-tariffs. Because our tariff is tied to the size of the trade deficit, the Chinese government would have little recourse, except to take down its barriers to our products.

If they were to react with counter-tariffs, they would be raising our tariff rate on their products. If they were to react by rapidly selling off their U.S. Treasury bonds, we could freeze their U.S. holdings, temporarily, in order to avoid too rapid a rise in U.S. interest rates. A gradual rise in U.S. interest rates would actually be good for our economy; currently U.S. interest rates are so low that they make it unprofitable for Americans to save.

The Chinese government could reduce our tariff rates by taking down their many tariff, non-tariff, and currency-manipulation barriers to our products starting, perhaps, with the barriers listed by the United States Trade Representative in the 2010 National Trade Estimate (NTE):

  1. Duties on American products including their 30% tariff on large motorcycles, their 30% duties on most video, digital video, and audio recorders and players, and their 35% duty on American raisins.
  2. VAT tax on American-produced diammonium phosphate (DAP) fertilizer while Chinese produced monoammonium phosphate is sold tax free.
  3. Directives which restrict buying to domestic sources.
  4. Restrictions preventing American companies from selling a wide variety of financial and insurance services in China.
  5. Delaying the sale of legitimate American DVDs and CDs while freely permitting their piracy.

Even if the scaled tariff would not affect trade, it would collect about $170 billion of revenue per year, enough to seriously dent our budget deficit. But of course it will affect trade. It will reduce American imports from the mercantilist countries. Instead, Americans will buy more from American producers and from non-mercantilist countries, such as Mexico, which buy more from the United States as they get richer. The result will be higher American incomes, more than making up for the higher cost of products imported from countries that that artificially limit imports from us.

The scaled tariff would simultaneously enhance American businesses that export and American businesses that compete with mercantilist-undervalued imports. It would pull the United States out of the current depression, just as an improving trade balance with Europe in 1939 pulled the United States out of the last one. Moreover, it would be in compliance with a special WTO rule which lets trade deficit countries restrict imports in order to avoid balance of payments problems. The entire tariff program would end as soon as American trade reaches approximate balance.

Moreover, the United States would be doing a service to the entire world by finally ending the scourge of mercantilism, the cause of the current worldwide depression. The problem with mercantilism is that it eventually bankrupts its consumers, ruining the markets for its products. As a result, imbalanced trade is not sustainable; balanced trade can grow forever.

The Obama administration appears to be incapable of addressing the problem, so it will be up to Congress or the next President to solve it. We have presented an appropriate solution: a tariff whose rate is scaled to our trade deficits with each mercantilist country.

Not only would the scaled tariff boost both American exports and production by those American producers who complete with mercantilist imports, but it would preclude retaliation by our trading partners, would require no new bureaucracy, would be IMF and WTO-legal, and could be instituted immediately. ESR

The authors maintain a blog at www.idealtaxes.com, and co-authored the 2008 book, Trading Away Our Future: How to Fix Our Government-Driven Trade Deficits and Faulty Tax System Before it's Too Late, published by Ideal Taxes Association.

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