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Britain’s car industry could weather a storm of tariffs better than you’d think

Britain’s car industry could weather a storm of tariffs better than you’d think

The latest American Economic Review contains a timely paper. Keith Head and Thierry Mayer, at the University of British Columbia and the Banque de France respectively, estimate the consequences of changes in tariff and non-tariff barriers to the car industry.

They look at both US-led protectionism and Brexit, and calculate how these might change the location of production.

The car industry is of course the tradeable industry par excellence. For example, 50 per cent of cars sold in OECD markets are assembled in locations that are neither the headquarter nor the consuming country.

The United States had threatened to impose so-called Section 232 tariffs of 25 per cent on cars imported from Canada and Mexico on national security grounds. And President Trump did bring in such tariffs in aluminium and steel, although in the summer America reached separate bi-lateral agreements with Canada and Mexico.

Head and Mayer estimate that Section 232 tariffs would have devastated the Canadian and Mexican car industries. Even if the two countries retaliated, car production would have fallen 40 per cent in Mexico and 67 per cent in Canada.

A key reason for these massive numbers is that almost all the brands made in Canada (11 of 12) and Mexico (10 of 14) are also made in the US. Under tariffs, there would be a strong incentive to shift production to America.

The results for the Brexit scenario are quite different.

The simulation is of a hard Brexit. UK exports face the European Union’s 10 per cent Most Favoured Nation tariffs, and Britain reciprocates at the same rates. The authors assume that we cannot roll-over existing EU agreements with third-party nations, and that the tariff structure with them reverts to the same basis.

The EU runs a large trade surplus with the UK in cars, so higher tariffs mean that we have less to lose. The British car industry actually gains through the protective effect of tariffs.

Overall, Head and Mayer estimate a fall in production of only four per cent. This arises purely from their calculations of trade with countries such as Turkey and South Korea.

The paper is impressive in its detail and in the rigour of its analysis. These are the great strengths of much modern economics.

Of course, it also has its weaknesses. The analysis is, to use a jargon phrase, a purely static one: it takes the technology and the structure of production as given, and traces how tariffs, by changing costs and so the incentives of firms to produce in different locations, work through the industry.

It does not take into account any dynamic changes: how productivity or innovation (which alter the structure of production) might respond to changed circumstances.

Assessing these factors is a much harder task. Most would agree, for example, that a hard Brexit under Jeremy Corbyn would lead to ossification, although this is a matter of judgement and not analysis.

Still, despite these limitations, the study shows that the impact on production of a hard Brexit even in an industry which thrives on trade would be negligible. It makes interesting reading at a time when hysteria over a no-deal Brexit is once again reaching a fever pitch.

As published in City AM Wednesday 18th September 2019
Image: Final Assembly by Brian Snelson via Wikimedia is licensed under CC BY 2.0
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It is the private sector, not the state, that has enabled America’s economic recovery

It is the private sector, not the state, that has enabled America’s economic recovery

The American economy continues to power ahead. The widely respected and independent Congressional Budget Office (CBO) reckons that the actual level of GDP in the US in 2017 is finally back at the level of potential output.

The potential level of GDP is the amount of output which would be produced if there were no spare capacity in the economy. In a service and internet-oriented economy, any estimates of it are fraught with difficulties.

The maximum output of a car plant or steel mill is reasonably straightforward to work out, at least in the short term. But it is less obvious what the constraints are on any web-related business.

Still, the concept of potential output is taken seriously by policy-makers. And the CBO does a better job than most at guessing what it is.

On their figures, the last time actual and potential GDP were in balance was in the year immediately prior to the crisis, 2007, which at least makes sense.

In 2009, the depth of the recession, the CBO calculates the gap between the two to be six per cent. That may not sound a lot, but in money terms that represents more than one trillion dollars.

American GDP is now almost 15 per cent more than it was in 2007, and 20 per cent more than in 2009.

Along with this, employment has surged, with 17.2m net new jobs being created from the low point of December 2009. As in the UK, employment is at record highs.

The increase in employment is entirely due to the private sector, where it has grown by 17.3m.

In contrast, the numbers employed by the government, whether federal or state, have been cut by 100,000.

The same applies on the output side. Again, it is the private sector which is driving the recovery.

Compared to the bottom of the recession in 2009, and after stripping out inflation, public sector spending is down by $200bn.

In contrast, private sector investment has risen more than 10 times this amount – an increase of $2.1 trillion.

So, despite strict restraints on the public sector, the American economy has recovered well from the crisis – indeed, better than the best performing main European economies, Germany and the UK.

The evidence has been there all along, as soon as the US began to pull out of the recession in the early part of this decade. It is evidence which seems to be studiously ignored by the strident voices in British academic circles calling for an end to “austerity”.

Of course, there have been tax cuts, and these stimulate the private sector. But the risk over the longer term is that growth will not be rapid enough to bring in enough revenue to curb the growth in public sector debt.

Indeed, the CBO sees the potential rise in this debt as an important threat to the long-term growth of America. Higher public borrowing, in its view, reduces the private sector investment which is needed for growth.

As published in City AM Wednesday 6th December 2017

Image: New York via Pixabay is licensed under CC by 0.0
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