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Over the last few weeks, I’ve written to you about one of the potentially biggest themes in the coming years.

I’m talking about the escalating trade war tensions – specifically against China.

Long story short, China is trying to export its way out of an economic slowdown. But as I’ve argued, China is far too big to do so without flooding the world with excess goods – leading to lower prices, crushed profit margins, and unemployment.

  • This isn’t Brazil we’re talking about (a ~$2 trillion economy). But a roughly $18 trillion economy with China. For China to focus more on manufacturing exports, its scale is massive for the rest of the world to absorb.

Since writing you: here are some developments of countries trying to raise tariffs (import taxes) and other limits on Chinese goods.

  • U.S. solar panel makers are seeking additional tariffs1 on imports from China to “stay competitive”.
  • President Biden is looking to triple tariffs on Chinese steel and aluminum imports2 (which is currently 7.5%).
  • Brazil is now setting to impose3 a quota system on 11 types of products. And any imported volumes exceeding these quotas will face a 25% tax (which was sparked due to Chinese goods flooding in). The Brazilian government says it’s committed to combating “unfair trade”.
  • The European Union (EU) is now initiating several investigations4 against Chinese imports and is expected to slap tariffs on Chinese electric vehicle (EV) imports by this summer. The EU is very annoyed with Beijing over-subsidizing its manufacturing sector (which is creating excess competition for EU firms).
  • Mexico decided to increase tariffs on certain products from countries it doesn't have a free trade agreement with, like China. This saw about 90% of Chinese exports5 to Mexico being impacted. These tariffs started on August 16 and continue to increase and will stay in place until July 2025.
  • Former President Donald Trump hinted6 at the possibility of imposing a tariff exceeding 60% on Chinese goods if he were re-elected, indicating a more aggressive stance towards China (which is the primary source of U.S. imports).

The point here is that countries around the world are trying to deflect the glut of Chinese exports.

And while these tariffs are a double-edged sword – such as helping domestic producers and employers but causing higher prices for consumers – it’s worrying how it may escalate.

Meaning I doubt China won’t look to place retaliatory tariffs on these countries at this rate. . .

Now, the question remains, “What if China does retaliate with tariffs?”

Well, that’s the big theme here. Because as the second largest economy in the world, any tariffs China places on imports will affect many countries.

But what worries me is the potential escalation in a trade war that could happen at a time when the global economy is fighting sticky inflation, slowing growth, and higher interest rates.

So, let’s look at history to highlight how a trade war can truly escalate into a whole new beast. . .

How Trade Wars Helped Make the Great Depression “Great”

Flashing back to the 1920s – aka the “roaring twenties” – the global economy was recovering from World War I and dealing with the dissolution of the German empire.

Back then, currencies were tethered to gold. The British pound was the global reserve currency (essentially what the U.S. dollar is today). And the U.S. was a major emerging and export-driven economy (imagine how China is post-2000s).

In the latter half of the 1920s, many countries began devaluing their currency pegs against gold and one another to try and get a trade advantage.

  • Why? Because when a country is suffering from high unemployment or wishes to pursue a policy of export-led growth, a lower exchange rate can be seen as advantageous (although conversely, it can cause domestic inflation and a lower standard of living as it makes imports pricier).

Imagine you and your friend both have lemonade stands. Your lemonade costs $1 per cup, and your friend's costs €1 (euro) per cup. One day, your friend decides to lower their price to €0.80 per cup to attract more customers. Suddenly, everyone starts buying lemonade from your friend because it's cheaper. To compete, you decide to lower your price to $0.80 per cup. This makes your lemonade more attractive to customers again.Now, imagine countries doing the same thing with their currencies. When a country wants to boost its economy, it may devalue its currency. This means they lower the value of their currency compared to others. It makes their exports cheaper for other countries to buy, so more people buy their products. It's like your friend lowering the price of lemonade.

But other countries might not like this. They might devalue their own currencies to compete, starting a "currency war." It can lead to a cycle of devaluations where each country tries to make its products the cheapest.

In the end, devaluations can make exports cheaper and boost a country's economy temporarily. But if every country does it, it can lead to instability.

There’s so much more on this that I would love to write about, but in short, a currency war was breaking out – aka “beggar thy neighbor” policies of devaluing currencies against one another.

  • This was a fascinating time in history – and a great book about this is “Lords of Finance: The Bankers Who Broke The World (2009)” by Liaquat Ahamed – a compelling and easy read on the post-WWI years and how major central banks did all sorts of things that helped lead to the Great Depression.

Now, while a currency war helped lead to the destructive Great Depression policies, there’s a lesser-known thing that contributed to making the Depression “Great”.

And that was the escalating trade wars. . .

To give you some context, by 1930, demand and asset prices worldwide were collapsing, and unemployment was surging. Thus, countries were desperately trying to devalue their currencies, export their excess abroad to eke out some growth, and curb imports (to protect jobs at home).

This led to The Smoot-Hawley Act – named after Senator Reed Smoot of Utah and Congressman Willis Hawley of Oregon – which was a hefty import tax that the U.S. signed into law on June 17, 1930.

  • The Smoot-Hawley Act added about 20% to the United States' already high7 import duties on thousands of foreign agricultural products and manufactured goods.

The idea was to protect U.S. businesses – especially farmers – against foreign countries trying to export their way out of the early stages of the great depression.

However, its unintended consequences were profound. . .

Within two years, some two dozen countries adopted similar "beggar-thy-neighbor" trade tariffs and duties, exacerbating an already beleaguered world economy and reducing global trade.

  • As I’ve shared with you before about the Prisoner’s Dilemma – a game theory model of how people cooperate or undercut each other - no one wants to sit idly by while others take their lunch money.

To highlight what the Smoot-Hawley Act triggered, both U.S. imports and exports to Europe fell8 by some two-thirds (66%) between 1929 and 1932, while overall global trade declined by similar levels during the four years that the legislation was in effect.

For example, here’s a chart9 showing 78 months of global trade flows after 1929 and 2008 began. As you can see, while post-2008 saw a sharp decline (for good reason), it recovered within three-odd years. Meanwhile, 78 months after 1929 kicked off, it was still roughly -20% below.

Thus, this “tit-for-tat” retaliation exacerbated the global economic crisis and symbolized a shift towards isolationist trade policies.

Long story short, the Smoot-Hawley Act serves as a cautionary tale about the risks of protectionism (tariffs) sparking a trade war that leaves everyone worse off

Wrapping It Up

Now of course, the Great Depression is an extreme example (a rare event). But the key theme here is that policy choices can amplify economic woes and cause unintended consequences.

Both currency and trade wars caused feedback loops into worse and worse conditions. And the retaliatory nature of these geopolitical games is worrying (as seen throughout history).

And while I hope we have learned from our past mistakes, I remain skeptical – especially in a contentious election year when both parties wish to appease domestic voters.

Or as the saying goes: bad politics trump good economics.

As usual, this is just some food for thought.

And time will eventually tell.













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