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Steel Yourself for Metallic Trade War

February 27, 2018

Some people, including me, have been predicting trade war ever since the 2016 election—and for a good reason. President Trump promised all sorts of harsh trade actions. He killed the Trans-Pacific Partnership agreement within days of taking office, which was a big deal.

Since then, we’ve seen more talk than action. But stuff has been brewing in the background, and now some of it is taking shape.

  • Negotiators are reworking the North American Free Trade Agreement (NAFTA).
  • New tariffs are hitting foreign-made solar panels and washing machines.
  • Steel imports may soon get punished.

All these moves matter far beyond their immediate impact. I’ll tell you how in a minute.

First, a little business: next week I’ll be at our Strategic Investment Conference (SIC) in San Diego, and it will be an amazing event, as always. I can’t wait to hear experts like David Rosenberg, Lacy Hunt, Mark Yusko, and Louis Gave discuss their economic outlooks.

If you can’t attend, check out our SIC Virtual Pass. It includes audio and video recordings of every session, written transcripts, and access to the event live stream. Read all about it here.

Now, on with our story.


Photo: Getty Images

Tariffs Recommended

February has been a crazy news month. Aside from market fireworks, we saw a new Federal Reserve chair take office, the Super Bowl, the Winter Olympics, the horrible Florida school shooting, plus assorted political and financial scandals. And the month isn’t over yet.

Amid all that, it was easy to miss minor stories with little immediate impact. But those stories can grow into bigger ones—and I’m pretty sure this one will.

On February 16, Commerce Secretary Wilbur Ross announced he had found that steel and aluminum imports “threaten to impair” US national security. He recommended the president impose new tariffs or quotas to reduce this threat.

The Commerce Department report was a response to President Trump’s request last year for a “Section 232” investigation under the 1962 Trade Expansion Act. That law lets the president bypass Congress to address trade-related national security threats.

President Trump thinks China is acting unfairly by dumping excess steel on the world market, to the disadvantage of US steel producers. He wants to stop it, but Congress won’t go along because steel consumers, like automakers, enjoy the low prices.

I reported this was brewing last summer (see Trump’s Terrific Trade War). Now it’s happening, and it’s potentially a big deal.

The idea isn’t entirely crazy. Defense contractors need reliable access to the raw materials—steel and aluminum—that go into the Pentagon’s planes, ships, tanks, etc. That means we can’t be too dependent on countries that might cut off imports during a crisis.

But is it really a risk? Wilbur Ross says so but Defense Secretary James Mattis seems unconvinced. His letter to Ross says the Pentagon “does not believe that the findings in the report impact the ability of DoD programs to acquire the steel or aluminum necessary to meet national defense requirements.”

The letter is carefully worded. I suspect Mattis knows he can’t stop this train and is trying to minimize the damage.

And make no mistake—there will be damage, and not all of it to foreigners.


Photo: Getty Images

Deeper Threat

The Section 232 investigation recommends the president solve the steel problem in one of three ways:

  1. A global tariff of at least 24% on all steel imported to the US
  1. A 53% tariff on steel imported from 12 specific countries, including China, India, and Korea, along with a quota capped at their 2017 exports to the US
  1. A quota on all countries at 63% of their 2017 US sales

The Department of Commerce also made similar but less harsh recommendations for aluminum. The president must decide by April 11 on steel and April 19 on aluminum. Bloomberg reported last Friday the president is leaning toward the harshest recommendation, the 24% global tariff. Axios reported he even wants to raise it to 25%.

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Any of these measures will mean higher prices for US steel and aluminum consumers. That’s you, if you want to buy a car or a steel-framed building, or you drink beer from aluminum cans.

It could also be a huge problem for Canada, if the president includes our northern neighbor in any tariffs and quotas. Canadian steel is highly integrated into US manufacturing.

Note, by the way, that Canada built much of its steel industry specifically to help US national security—supporting each other as allies do. To now be punished because it is allegedly threatening US national security won’t sit well with Canadians. Nor should it, in my opinion.

That brings us to the real problem. Steel and aluminum are only the symptoms of a bigger threat to the global trading system.


Photo: Getty Images

Retaliation

The deeper issue here is that Section 232 bypasses both Congress and the present world trade dispute resolution process.

Countries have trade disagreements all the time. The World Trade Organization (WTO) works to resolve them. President Trump thinks the WTO’s methods are unfair. His solution, if he moves forward on the steel and aluminum actions, is to simply roll over the opposition using national security as pretext.

The problem is, other countries won’t sit still for this. Their own domestic industries and voters will demand action, so it’s very likely that foreign governments will invoke their own national security concerns and retaliate against US exports.

Note also that the retaliation won’t necessarily be against US steel or aluminum. They could penalize US technology, agriculture, or consumer brands. My Twitter friend, former trade diplomat Harald Malmgren, says China will likely respond with “asymmetric” measures designed to inflict pain on key US interests, including non-trade interests.

This is how trade wars begin, and they rarely end well for anybody. They also spread through markets quickly. Trade flows drive currency exchange rates, which affect all kinds of other things—not to mention the equity and bonds issued by companies that lose export revenues or see their raw material costs rise.

Maybe President Trump will decide not to do anything, and this will all blow over. Or maybe not. Either way, we should find out soon.

See you at the top,

Patrick Watson

P.S. If you’re reading this because someone shared it with you, click here to get your own free Connecting the Dots subscription. You can also follow me on Twitter: @PatrickW.

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William McCarthy

Feb. 27, 6:11 p.m.

We are in the midst of a “trade war” and have been for decades. Germany, China et al run mercantilist trade policies. They have been winning. The elites have been on board since they get to arbitrage labor, environmental and civilizational differentials and have won big time one way or another getting wealthy beyond the wildest dreams of the old Robber Barons. Of course, the working/middle class, has taken it in the teeth. While the professional and managerial classes have been able to ride above the fray. This farce of a global trade regime has been sustained because the US consumers could be the buyer of first and last resort as long as they had credit. It was never sustainable and has now gone bust. Time to disrupt the status quo.

Jim Coulson

Feb. 27, 9:59 a.m.

Patrick,

Agreed that a trade war is horrible for the economy and should be avoided if possible.

Let me through a couple of thoughts at the group and you.  Feel free to “poke ‘em with a stick.”

US debt on the books is over 20 trillion dollars.  Debt off the books is a large multiple of that.  Our ability to “throw money” at solving problems is rapidly drawing to a close.

US “strategy” has typically been the “short” game in the past hundred years.  Our entries into wars have been ill defined, and post WWII, without clear guidance to “win” at all costs.  In doing so, we have squandered the nation’s blood and treasure.  We are young as a country, but relatively old as a Republic.

US has a rapidly aging population, and has thus far resisted the changes necessary to entitlement programs to strengthen the future of the Republic.  Massive cuts enacted due to a financial collapse may happen.  IF that happens, there will be massive social unrest in the US.

OK, why the history lesson?

Contrast the above with China.

5000 year old country with a long view of history.  Massive national resentment towards foreign powers due to invasions over the centuries, including Western and other Oriental powers during and after the Opium wars and WWII.

A Communist government with virtually unlimited labor to accomplish state aims.

China has proven in the past that it attempts to control world markets, witness the recent past in the rare earth markets.  Evidence exists that it continues to pull the strings there, albeit with a little lighter hand.  That hand can clamp down at any time.

China has proven time and again that it does not respect international intellectual property laws, nor international agreements on trade piracy.

China has been militarizing on several levels.  It has an immense Naval build up, an active “area denial” system of missiles specifically designed against US aircraft carriers, and a build up on international reefs and islands of military runways and outposts.

It has now taken over a lot of the world’s capability to produce automobiles, and is learing from Boeing to make much better airplanes.  Watch the big picture, engine technology will follow that.

It is building its “One road” program throughout the developing world.  Guess what?  Having that superhighway is a lot like an Autobahn or our own Interstate system.  (Both built to move weapons of war…only this one is Asia wide).

Now, like a drug baron to an addict you start feeding cheap raw materials to various nations, driving their steel and aluminum mills out of business.  You focus especially on specialty metals and those that take high skills to make.

Makes a lot of sense as a consumer…you go to where it is cheapest.  It is, after all, a world market, right?  Those big container ships from China unload the mana every day 24x7x365.

Until they don’t. 

China has shown every attempt to be trying to weaken the US’s global reach, and global power.  Dominating and crippling the US’s steel and aluminum business will cripple its ability to build ships and aircraft.  They don’t have to cut off the flow, merely slow down orders while achieving their own strategic aims.

Most certainly they wish to dominate the South China Sea.  Once they do, they can threaten oil flow to Japan and South Korea. More likely, it will continue to use proxies like North Korea to engage the US and its allies.

If a new Korean war were to kick off, most likely you would see a Russian move vs the remainder of the Ukraine, and perhaps the Balkans.  Iran, having a foothold in Syria could then use Hamas and Hezbollah to do direct attacks on Israel.

OBTW, the US has defense agreements with (weak) NATO, Israel, South Korea and Japan.  It also has forces engaged and in harm’s way right now in Afghanistan, Iraq, and special forces in something like 90 countries, including fighting Muslim terrorists in the Philippines.

Whew!  That’s a lot.  So, if you were China, wouldn’t that be a wonderful time to engage the takeover of Taiwan?

Brushfire wars all over the world, but not truly a World War, as there is no one common enemy.  The US has overextended itself both economically, and with its defense treaties.

Which one of its allies does it NOT support?  Does it engage China directly, and lose its steel, aluminum, production capability, rare earths and consumer goods?

Think the US today is really ready for the scrap metal drives of WWII?  Think we will really melt down our pots and pans to defend Taiwan?  How about the Ukraine?

China has a large enough land army to support North Korea and take over Taiwan assuming the US Navy is fully engaged defending South Korea and Japan.

Bottom line is that we’ve fiddled away our economic advantage, our military power, and if we don’t figure out a good balance here on steel and aluminum manufacturing, our industrial base necessary for a wartime build up.  China is certainly hoping we will.

 

 

 

 

 

 

 

Thomas Majewski

Feb. 27, 9:02 a.m.

Trade wars often lead to real wars.  The government cannot successfully introduce price controls, which is what tariffs and extra taxes really are, and think that they can control the economy. Most people in the DC Swamp do not understand trade and that includes Trump.  All sides will be hurt, for the countries we place tariffs upon can do the same to us.  And since we are the largest consumer country, it will hurt our economy.  You cannot protect jobs that are not cost efficient and profitable to keep around by the entity providing them. Tariffs are akin to government dictatorship in which they try to control everything and everyone.  Not anti-Trump, just anti-government.


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