Trade wars lead to increased prices

In a full-scale trade war, which U.S. Sen. Joni Ernst has allowed the President to impetuously precipitate, the most immediate impact on imports would be to increase prices overall. This, in turn, could increase input prices and, as a consequence, raise production costs in the export sector and reduce output. Moreover, due to the decreased level competition, the rent on factors of production like financial capital, physical capital and, less directly, land, could also increase, leading to a similar decline in output.

Assuming the income effect will be less and demand is more elastic, there is also the problem of substitution - since the tariff will raise the relative price of imports, there will be a greater incentive to replace affected products with non-tradable products.

Another problem would be the resulting changes in exchange rates. If Country A imposes tariffs on the product of Country B, then its currency will appreciate and the targeted country's currency will depreciate, making its exports relatively more expensive and creating a disincentive to export. Because of the resulting depreciation, exporters in Country B will simply sell the exports to another country at a higher profit.

For these reasons, import tariffs lead to an equivalent tax on exports, which reduce the welfare gains. And, if the impact of the aforementioned factors is great enough, it might counterintuitively lower the export prices of the sending country.

John Hernandez

Cedar Rapids