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SMOOT-HAWLEY TARIFF IS COMING BACK
Chinese Proverb: When dancing with a scorpion, safety is in holding the tail firmly.
The U.S. Federal Reserve declared a Trade War last fall by flooding the world with newly
printed paper money in a scheme to hammer China with inflation and force the nation to commit
economic suicide by raising the exchange rate of their currency. Having failed to force China to
change, the War just went global when the European Union imposed its first-ever anti-subsidy
tariffs for: “strategic and targeted subsidization of a specific industry by the Chinese
government”. The action slaps a charge 4% to 8% duty against all coated paper exports from
China, then wallops another 8% to 35.1% duty against individual Chinese companies accused of
dumping paper below cost. This draconian action follows Belarus becoming the first European
nation to financially collapse and be forced to devalue their currency by 56%. As China’s
cheaper exports continues to destroy European jobs, the PIIGS of Europe - Portugal, Ireland,
Italy, Greece, and Spain - are at risk suffering a fate similar to Belarus.
The problem with imposing punitive tariffs against countries is the process snowballs into a
series of retaliations that will do considerable damage to both parties. When the U.S. Congress
passed the Smoot-Hawley Tariff Act in 1930 the legislation was initially hailed as a great
success as factory payrolls, construction contracts, and industrial production all increased
sharply. But over couple of years as imports decreased 66% and exports decreased 61%. Banks
that had financed the trade began failing. Bank failures caused depositors of solvent banks to
panic and withdraw their funds, causing more and more bank failures. By 1933, U.S. gross
domestic product had fallen by more than 50% and our nation was in the grips of the Great
Depression.
In the early 1990s, when China was on the verge of a civil war following the Tiananmen Square
protests and the Soviet Union was imploding; Europe and the U.S. united the West in
strategically offering to subsidize China’s economic conversion to capitalism through
unprecedented free-trade access to Western markets and toleration of China devaluing their
currency by 76%. With hyper-competitive labor costs and free trade access, trillions of dollars
of foreign investments flooded into China to build new factories for exporting to the West.
The West’s initial relationship with China was symbiotic. China got 100 million desperately
needed jobs to quell social unrest and the West got cheaper imported goods. Analysts referred to
the period from 1994 to 2007 as the Goldilocks Economy, because real estate and stock prices
soared in the West as Western Central Banks slashed interest rates without fear of unleashing
inflation. The wealth-effects from rising asset values fostered an epic consumption and
borrowing as hundreds of millions of Western workers felt economically more prosperous, while
only 20 million manufacturing jobs were lost to China. The asset boom also caused tax revenues
to sky-rocket and Western politicians eagerly joined in borrowing and spending spree.
The Western love affair with China ended with the 2008 credit crisis that burst the real estate
bubble and caused the loss of another 20 million Western jobs. China refused Western demands
to raise their exchange rate and parasitically destroy more jobs in the West; as 16 million new
Chinese workers enter the labor force each year.
Belarus had served for decades as the Europe’s convenient low-cost manufacturing location for
European Union and Russian companies. But brutal competition from Chinese exports has
driven unemployment from 1% to over 30% in the last three months. When the country
financially collapsed and was forced to devalue its currency by 56%, the nation’s bank
depositors and bondholders also lost 56% of their savings in a single day. Europeans are
recoiling from television scenes of panic spreading in the streets across country as store shelves
have quickly been emptied by desperate locals trying to spend their collapsing rubles on food
and consumer products before another feared wave of devaluation strikes. Neighboring Russia
has offered Belarus $3 billion in emergency loans; but only on the condition the government
sells $7.5 billion of assets to Russia at garage-sale-prices. Now on the verge of starvation,
Belarus is a frightening preview for what could happen to the PIIGS of Europe if they financially
collapse and are forced to devalue their currency.
The West heavily subsidized the growth of globalized trade with China to serve their political
and economic goals of destroying the “march of communism”. The strategy was wildly
successful, but China has been transformed into a monster that is now devouring jobs in the
West. With China unwilling to compromise its competitiveness and the PIIGS of Europe on the
brink of Belarusian style disasters; the West is headed down the path of erecting tariff walls
against China. Once nations start tariff cycles, the process politically snow-balls to cause
unintended consequences. Just like the passage of Smoot-Hawley Tariffs in the 1930s; the world
economy will soon be headed for big trouble.