The “Buy American” Clause: A Tariff-ying Return to Smoot-Hawley?
The “Buy American” Clause: A Tariff-ying Return to Smoot-Hawley?

The desperate times caused by the current economic downturn have left policy makers all around the world scrambling to find a quick fix. Many believe that this can be achieved through protectionist policies that will promote domestic industries and put their citizens back to work.

The “Buy American” clause is the latest example of protectionist policy in the United States. Currently under debate in Congress, the clause attempts to stimulate the domestic economy at the expense of angering foreign industries. But this quick fix may cause more damage than supporters realize. Taking a lesson from the Great Depression, it is clear that protectionist policies prolong global economic recovery.

The 1930s Case

The United States has seen boom and bust cycles throughout its economic history, and in the age of globalization, these ups and downs have had international effects. However, none have been as severe as the great depression of the 1930s and early 1940s. It is for this reason that economists, historians, and other intellectuals have spent years studying the causes of the great depression.

There is still no real consensus on the subject with some believing that incompetence by the Federal Reserve was to blame, while others argue that it was the defense of the gold standard at all costs that caused the depression. Yet, whatever the cause, most would agree that the Smoot-Hawley tariffs passed to protect U.S. businesses from foreign imports certainly did not help alleviate the global economic strain caused by the depression.

The bill, which was originally designed to lower manufacturing tariffs and raise agricultural tariffs, quickly spun out of control. Politicians, feeling pressure from constituents, felt the need to pass protectionist laws in order to show that they were doing something to resolve the financial crisis and create new jobs for Americans.

Thus, there were personal gains to be made by elected officials who supported the Smoot-Hawley tariffs. This is most obvious in the case of Joseph Grundy, who believed that anyone who contributed to his campaign was entitled to higher tariffs on their competitors.1

The end result of the Smoot-Hawley tariff was an increase in 845 tariffs and a decrease in only 82. These protectionist actions meant that foreign countries exporting goods to the United States faced greater competition from products produced domestically. While this was great for American manufacturers, who saw an increase in sales due to the increased tariffs, foreign countries saw their sales greatly decline.

In retaliation to these tariffs, foreign countries introduced their own tariffs for imports from the United States. The consequence of these protectionist actions was a steep drop in global trade, which prolonged the depression and made it difficult for American manufacturers to find markets outside of the United States.2

Similarities Between the Great Depression and the Current Economic Crisis

While it is true that the U.S. economy has changed drastically since the 1930s, there are similarities that validate a comparison of the depression to the present. The current housing crisis is incredibly similar to the farm foreclosure crisis of the 1930s, despite the evolution of the American economy.

In the early 1930s, the economy was reeling from a crash in farm prices brought about by the end of WWI. European farmers who had been fighting in the trenches returned to their homes, reducing the value of American produce. During the war, American agriculture was needed to feed Europe and prices for food were high. More farmers entered the market, increasing the price of farmland, and speculators also bought land, further driving up prices. But when the war ended, and Europeans began farming again, demand for US agriculture dropped significantly and with it, the value of farmland.

Today we see a very similar crisis. Housing prices increased steadily throughout the early 2000s, and were further inflated by speculators looking to buy homes and quickly resell them. When this bubble burst, it left homeowners with mortgages that were higher than the market value of their homes. Combined with increased interest rates on adjustable rate mortgages, many home owners could neither make their monthly mortgage payments nor sell their homes.

Home owners have not been the only people affected by the housing crisis; businesses are also having difficulty obtaining loans. All of this has led to an increase in home foreclosures, a decrease in consumer spending, and an increase in the unemployment rate. Given the similarities between the 1930s and today, it is important to determine which policies alleviated the crisis then and which only exacerbated it. Thus, the fact that the Smoot-Hawley tariff delayed domestic and global recovery from the depression should be weighed heavily by policy makers today.

Foreign Protectionism Today

Fortunately, today trade organizations are in place to prevent countries from raising tariffs too far. For example, the World Trade Organization (WTO) created a ceiling above which a country cannot raise their tariffs.

But while the WTO can prevent protectionism to an extent, it cannot prevent it entirely. Many countries’ tariffs are already well below the maximum allowed, and thus could be increased dramatically without any penalties from the WTO. Some estimates have predicted that if all countries raised tariffs to levels that were legally allowed by the WTO, global trade could decrease by as much as 7.7 percent.3

Countries like India, Russia, and Vietnam are already raising their tariffs, with more countries likely to follow. However, not all nations are interested in implementing protectionism. For example, Switzerland brought world leaders together to advocate the continued pursuit of free trade.

The Swiss economics minister, Doris Leuthard, expressed the importance of free trade talks by declaring his belief that “[free] trade is the best economic stimulus.” However, this stimulus can not be created unilaterally; global cooperation is required. Gordon Brown, the British Prime minister made this point clear by explaining that “this [crisis] is not like the 1930s. The world can come together.”4

The call for free trade is not isolated to wealthy European countries either. Rather, these sentiments are echoed by many Asian countries, including Japan and China, who both have very close economic ties to the United States. However, a clear line has been drawn between those supporting free trade and those who are pursuing protectionist policies. As this takes place, all eyes are turned to the United States to see which direction it will take its trade policy.5

Domestic Protectionism Today

The U.S. Congress has already started to take protectionist actions, although not to the level of the Smoot-Hawley tariffs of the 1930s. Instead, the US Congress has chosen to engage in a more subtle type of protectionism.

This more discrete form of protectionism can be seen in the latest economic stimulus bill. In it, the US Congress has allotted a large amount of money for public works projects. However, the bill also requires that all of the steel, iron and manufactured goods used for these projects be produced in the United States.6 While this does not raise the price of imports like a tariff would, it still limits the competitiveness of imported goods. Thus, the “buy American” clause can be considered a barrier to trade and a form of protectionism.

President Obama, who recently commented on the issue, has announced publicly that he does not support the “Buy American” clause. The President, understanding the ramifications of the clause and feeling pressure from abroad, stated that he wants to avoid starting a global trade war. Obama explained that we are not “just looking after ourselves and not concerned with world trade.”7

Why Engage in Protectionism?

Discussion so far has largely focused on the need for free trade in order to keep global trade routes open. However, there are arguments that can be made for supporting protectionism. For example, the “buy American” clause discussed above is intended to use tax dollars to create and maintain jobs for Americans, rather than sending that money to overseas. If this can be accomplished without retaliation from other countries, than it will lead to a speedier economic recovery for the United States.

There are other reasons to engage in protectionism, as well. Economic theory states that when trade is opened, workers will shift from the industries that are no longer competitive because of free trade into newly created export industries. However, this shift is not instantaneous as the theory suggests. Rather, workers may be out of work for prolonged periods of time and may need to be re-trained in order to find work. Thus, while free trade has macro social benefits, there may be individuals hurt at the micro level.

The fact that trade policy clearly benefits some more than others has lead to social unrest in some countries.8 One of the more recent and violent outbursts against free trade occurred in Switzerland, where hundreds of people turned out to protest free trade talks. When the group was denied access to certain areas of the city, protestors began throwing bottles and violently acting out. In response, police fired tear gas and water cannons into the crowd.9 Given reactions like this to free trade negotiations, governments may want to pursue protectionist policies simply out of a need for self preservation.

Conclusion

The decision to support free trade or protectionism is a difficult one. However, it is critical for legislators to learn from the past; specifically the Smoot-Hawley tariffs. Understanding that protectionist policies have the potential to cause a chain reaction of raised tariffs in other nations, free trade appears to be the better policy. Despite the potential losses associated with free trade and the short term gains created by protectionism, free trade will allow for faster global economic recovery. Policy makers need to think beyond their own countries, as citizens of the world.

Your Opinion
Do you agree with the viewpoints expressed in this article? Do you support the Buy American clause as a way to strengthen the U.S. economy or do you view it as a protectionist policy, that will not actually hurt the U.S. economy in the long run?

Join our Facebook discussion (http://www.facebook.com/p.php?i=858640373&k=5XBU42Q6S55M5BBBXFXXVS) on this topic.


1 “The Battle of Smoot-Hawley.” The Economist [London] December, 20 2008.
2 Ibid
3 “World Trade: Barriers to Entry.” The Economist [London]. Decembe 20, 2008.
4 Klapper, Bradley, and Matt Moore. “At Davos, fear of retrenchment from free trade.” Yahoo! Finance. January 31, 2009.
5 Kin, Kwan W. “
Asia counting on free trade.” The Straits Times. February 3, 2009.
6 Butler, Desmond. “
Obama facing dilemma over protectionism.” Washington Post. February 3, 2009.
7 “
Barack Obama says US wants to avoid a trade warTelegraph. February 5, 2009.
8 King, Neil, Alistair Macdonald, and Markus Walker. “
Crisis Fuels Backlash on Trade.” The Wall Street Journal. February 3, 2009.
9 Klapper, Bradley, and Matt Moore. “
At Davos, fear of retrenchment from free trade.” Yahoo! Finance. January 31, 2009.

 

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