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Bill George

Harvard Business School Professor, former Medtronic CEO

CNBC: Trump’s Trade War Will Raise Prices for Consumers and Could Trigger a Recession

  • Relatively free trade has enabled consumers to purchase myriad products at much lower prices.
  • This has given American consumers a much higher standard of living in a time of limited wage growth.
  • There is a reasonable probability that the combination of inflation and higher interest rates resulting from a trade war will throw the U.S. economy off its current growth trajectory and may even trigger a recession.

Much has been written about the harm that President Donald Trump’s trade wars will do to American farmers, manufacturers, and their employees. That is all true. But the real losers in this “America First” initiative will be American consumers. If President Trump follows through on his threats, U.S. consumers will see rapid rises in the prices of everything from T-shirts to automobiles to new homes.

Ever since President Ronald Reagan and Paul Volcker’s Federal Reserve tamed the great inflation of the late 1970s – when prices and interest rates skyrocketed to 18 to 20 percent per year – American consumers have enjoyed 35 years of low inflation and low interest rates. Beyond the Federal Reserve Bank’s skillful monetary management, two major factors have driven this favorable economic scenario: globalization and technology.

Let’s start with technology. Moore’s Law, which predicted the doubling of computer power every two years, has enabled today’s consumers to benefit from exponential increases in computing power. The capability of a typical smart phone far exceeds the capability of the supercomputers of the 1980s—and the cost of such power has fallen tremendously too. Similarly, advances in integrated circuits have increased electronic capabilities while lowering the cost of everything from television sets to pacemakers. Meanwhile, the tech industry has created millions of new jobs.

On the globalization front, relatively free trade has enabled consumers to purchase myriad products at much lower prices. Go to a Walmart and look at a sample of products and where they are made: China, Indonesia, Mexico, Korea, and the like. Stop by Best Buy and see where the television sets, mobile phones, laptop computers and watches are produced. These imports have drastically cut the cost of consumer goods for American consumers. This has given American consumers a much higher standard of living in a time of limited wage growth. In turn, consumer purchases have fueled the growth of the American economy.

The combination of technology and globalization has also had a negative impact on certain labor-intensive industries like textiles, steel, and shoes. But these industries are not bringing their manufacturing jobs back to America. The solution for these dislocations does not lie in trade wars, but rather in retraining the American workforce for jobs of the future that require new and greater skills.

Trump’s trade war threatens to reverse this favorable 35-year interest-inflation moderation.

Higher prices already happening

As the result of the U.S. imposing tariffs on $48 billion of imported steel and aluminum, American manufacturers and consumers are already seeing much higher prices on end products. Sen. Heidi Heitkamp told CNBC on Friday that the benefits of President Donald Trump’s tax cuts have already been negated as a result of his steel and aluminum tariffs.

Now the President is threatening tariffs on $351 billion of imported automobiles and auto parts. The entire automotive value chain – manufacturers, suppliers, dealers and the UAW – is united in its concern about the harm auto tariffs will bring. The highly respected Peterson Institute for International Economics predicts these tariffs will increase the cost of automobiles by $1,400 to $7,000. These are price increases that American consumers can ill afford. Inevitably, they will result in fewer vehicles being sold, causing hundreds of thousands of American auto workers to lose their jobs. This too will hurt the purchasing power of American consumers.

There is no doubt that the U.S. has legitimate complaints about protection of its intellectual property rights and the barriers China erects to doing business in China. But trying to intimidate the Chinese is not the way to conduct negotiations. On Friday, President Trump told CNBC, “I’m ready to go to 500,” meaning he is willing to impose tariffs on all $505 billion of Chinese imports. He also criticized the Federal Reserve for raising interest rates, saying, “I’m not happy about it.”

‘Trigger a recession’

Escalating the U.S.-initiated trade war with the Chinese will trigger significant increases in consumer prices of all imported Chinese products and components used by U.S. manufacturers, further harming American consumers. These price increases may trigger a new inflationary spiral, causing the Federal Reserve to raise interest rates faster. There is a reasonable probability that the combination of inflation and higher interest rates will throw the U.S. economy off its current growth trajectory and may even trigger a recession.

It would be the height of naivete to believe that the Chinese, Europeans, Canadians and Mexicans will sit idly while the U.S. imposes tariffs on their exports to America. Already their retaliatory actions are hurting U.S. farmers and causing manufacturers like American-icon Harley Davidson to lay off American workers as it moves production off shore. U.S. and foreign automobile companies are preparing to follow suit. Meanwhile, America’s relationships with its long-standing trading partners are in shambles. The negative consequences are just beginning.

Meanwhile, the Trump administration remains in denial about the potential harm of U.S.-levied tariffs. Speaking at the G20 meeting in Buenos Aires, U.S. Treasury Secretary Steven Mnuchin said Saturday the U.S. economy has not been harmed by the trade battles. During his CNBC interview on Friday, President Trump said, “We’re playing with the bank’s money.

President Trump is betting that these tariffs will cause the Chinese and other nations to capitulate to the U.S. That belief defies credibility. Chinese President Xi Jinping, who was recently made “president for life,” is not likely to back down. Much more probable are severe restrictions on the Chinese operations of America’s global-leading companies like Apple and General Motors in their Chinese operations, as Apple generates 21% of its revenues in China, while GM sells more automobiles in China than it does in the U.S.

Many business leaders and stock investors are betting that the President is bluffing, and will back away from his threats. Thus far, President Trump shows no signs of doing so. Rather, he seems to think the trade wars are helping him politically. That’s a dangerous bet. Populist rhetoric may resonate in the short-term, but the economy is actually the most reliable barometer of election results.

Meanwhile, American consumers will be the ones to be harmed this high-stakes global game.

This content was originally posted on CNBC.com on 7/23/18.