Macro reasons to loath protectionism

From a VoxEU post by Davide Furceri, Swarnali Ahmed Hannan, Jonathan D. Ostry, Andrew Rose:


It seems an appropriate time to study what, if any, have been the macroeconomic consequences of tariffs in practice. Using a straightforward methodology to estimate flexible impulse response functions, and data that span several decades and 151 countries, this column finds that tariff increases have, on average, engendered adverse macroeconomic and distributional consequences: a fall in output and labour productivity, higher unemployment, higher inequality, and negligible effects on the trade balance (likely owing to real exchange rate appreciation when tariffs rise). The aversion of the economics profession to the deadweight loss caused by protectionism seems warranted.


One of the most pressing issues on the international agenda these days is protectionism. The US’ trade war with China has created international tension that is infecting stock markets worldwide, exacerbated by other disputes such as the renegotiation of NAFTA, Brexit, and US steel and aluminium tariffs. One ingredient curiously absent from this turbulence is disagreement among the experts on the merits (or lack thereof) on the underlying issue. Indeed, more than on any other issue, there is agreement amongst economists that international trade should be free.1

Economists have been aware of the senselessness of protectionism since at least Adam Smith. In general, economists believe that freely functioning markets best allocate resources, at least absent some distortion, externality or other market failure; competitive markets tend to maximise output by directing resources to their most productive uses. Of course, there are market imperfections, but tariffs – taxes on imports – are almost never the optimal solution to such problems. Tariffs encourage the deflection of trade to inefficient producers and smuggling to evade the tariffs; such distortions reduce productivity, income and welfare. Further, consumers lose more from a tariff than producers gain, so there is ‘deadweight loss’ as well as inequality (if production tends to be owned by the rich).  The redistributions associated with tariffs tend to create vested interests, so harms tend to persist. Broad-based protectionism can also provoke retaliation which adds further costs.  All these losses to output are exacerbated if inputs are protected, since this adds to production costs.

Discussions of market imperfections and the like are naturally microeconomic in nature (Grossman and Rogoff 1995). Accordingly, most analysis of trade barriers focuses on individual industries. International commercial policy tends not to be used as a macroeconomic tool, probably because of the availability of superior alternatives such as monetary and fiscal policy. In addition, there are strong theoretical reasons that economists abhor the use of protectionism as a macroeconomic policy; for instance, the broad imposition of tariffs may lead to offsetting changes in exchange rates (Dornbusch, 1974). And while the imposition of a tariff could reduce the flow of imports, it is unlikely to change the trade balance unless it fundamentally alters the balance of saving and investment. The findings of recent studies on the impact of trade would imply that tariffs could hurt output and productivity (Feyrer 2009, Alcala and Ciccone 2004). Further, economists think that protectionist policies helped precipitate the collapse of international trade in the early 1930s, and this trade shrinkage was a plausible seed of WWII. So, while protectionism has not been much used in practice as a macroeconomic policy (especially in advanced countries), most economists also agree that it should not be used as a macroeconomic policy.

The here and now

Times change. Some economies – notably the US – have recently begun to use commercial policy seemingly for macroeconomic objectives. So it seems an appropriate time to study what, if any, the macroeconomic consequences of tariffs have actually been in practice. Most of the predisposition of the economics profession against protectionism is based on evidence that is either a) theoretical, b) micro, or c) aggregate and dated. Accordingly, in our recent research (Furceri et al. 2018), we study empirically the macroeconomic effects of tariffs using recent aggregate data.”

Continue reading here.

Posted by at 10:18 AM

Labels: Macro Demystified


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