What is a Trade War?
A trade war is a diplomatic stance where one country raises its tariff on imports from another country. It is a way of discouraging purchases from the international markets, safeguarding the interests of local traders.
It often results in an imbalance between imports and exports of a nation. However, these policies promote domestic production, increase national employment, reduce the balance of payment, and create unfavorable conditions for the enemy nation. Trade wars are often an initiative against unfair trading policies.
- A trade war is a strategic rebellion one nation wages against another. It involves raising tariffs, quotas, and other duties on imports.
- Motives behind such policies include striking an enemy nation’s economy, encouraging domestic manufacturers, improving the national economy, and reducing the balance of payment.
- Such decisions impact the global economy as well. It can potentially lead to a worldwide economic slowdown, inflation, and unemployment. It can also affect global stock markets.
- Such a diplomatic stance creates a trade deficit and the revaluation of home currency.
Trade War Explanation
The trade wars are initiated by increasing the tariff on imports from another country. The motives could be logical or hostile. A war erupts when the target country also retaliates by obstructing cross-border trade. This could be in the form of increased tariffs or any other action which indirectly affects the enemy nation.
The history of trade wars can be traced back to the 17th century when the colonial powers went against each other to control the overseas sale of goods. The Opium Wars of 1839 and 1842 are also similar examples. In 1930, the US government passed, The Smooth-Hawley Tariff Act to safeguard the interest of their farmers. The increased tariffs were aimed at European agricultural products.
Similarly, in -1962, there was a Chicken war. The US was up against West Germany, France, Belgium, Italy, Netherlands, and Luxembourg, who increased tariffs on US-bred chicken. In the 1980s, the US and Japan waged the automobile trade war to improve American automobile and electronics manufacturing industries.
Trade wars affect the global economy as it directly or indirectly impacts other connected countries. They can result in a worldwide recession. However, it can be solved unilaterally. Alternatively, the countries can involve the World Trade Organization to settle or restrict unfair trade practices.
Weapons of Trade War
It is a non-violent form of retaliation; the weapons used for fighting the trade wars include:
- Tariffs: The Government imposes heavy taxes and duties on imported goods. By doing so, the government promotes products from the domestic market over the international market.
- Embargoes: An embargo is an extreme step where a nation prohibits the purchase of certain goods from another country. It is a ban on import-export of specific commodities.
- Import Quotas: It is another trade war tactic where the nation imposes a particular limit on imports from the target country. Again, this is a step toward promoting local manufacturers. Domestic manufacturers can potentially capture the market, replacing foreign products.
- Subsidies: To promote production and exports, the government offers subsidies to the local manufacturers. Goods become economical and domestic production is ramped up.
- Currency Devaluation: Some nations devalue their currency value to reduce exchange rates. This move makes the export of goods and services more economical for the the country’s allies. Besides, it discourages imports by making them costly for the domestic consumers.
Trade War Example
The “banana wars” is the culmination of a six-year trade quarrel between the US and the EU. The US complained that an EU scheme broke free trade rules. Allegedly, the EU gave Caribbean banana producers special access to European markets
Back in 1993, Europe levied heavy import duties on the cross-border purchase of Latin American bananas from African and Caribbean nations. It caused a considerable loss to the Americans engaged in the cultivation and export of bananas.
The US filed a complaint against the EU with the World Trade Organisation (WTO). In 1997, the US won, the EU was instructed to alter its rules. As a result, the tariffs on each tonne of Latin American bananas were gradually reduced from 176 euros to 114 euros.
Trade wars are either strategically planned or abrupt decisions of a nation’s government. It is initiated for the following purposes:
#1 – To Protect Domestic Economy
One of the primary reasons for initiating a trade war is to support domestic manufacturers. Often local firms cannot compete against international competition.
#2 – To Create Employment Opportunities in Domestic Country
The governments check imports to reduce unemployment and improve living standards.
#3 – To Safeguard a Nation’s Intellectual Property
If intellectual property rights, trade, or other secrets are infringed, the government restricts imports.
#4 – To Reduce Balance of Payment Differences
In order to protect the country, either the tariffs are increased or imports are restricted. This is done when exports are less than imports. Such a trade deficit results in the devaluation of the currency.
#5 – To Develop Unfavourable Conditions by restricting exports
When two nations are at war, raising tariffs on export can cause unfavorable conditions for the enemy country. This is done when the enemy country largely depends on imports.
#6 – Diminish Trade Deficit
Reducing the trade deficit improves the stability of the economy. When the total import from outside is higher than total exports, it is called a trade deficit. This is because countries make profits by exporting and selling and want to minimize purchases.
In order to reduce the deficit, the government restricts imports from outside. But, again, the motive is to ensure that the domestic products meet the local needs.
Effects of Trade War
Let us now understand the consequences of a trade war:
On Global Economy
The global economy may suffer a worldwide recession, as explained below:
- Global Price Rise: When tariffs on imports increase, exports depending on those raw materials also become expensive. As a result, these products become too expensive in the international market.
- Increase in Inflation: The upsurge in prices results in global inflation. This can potentially cause a recession. Share prices could plummet, impacting international markets.
- Threat to Global Economy: In a cold war between two countries, the supporting nations may also restrict imports from the common enemy. This can seriously impact global economy.
- Slows the Economic Growth: War between two nations hinders the economic growth of the affected countries as well. Raw materials are not always available locally. During the war, raw material becomes expensive or inaccessible; this is what causes an economic downturn.
- Fall in Global Stock Market: When the world’s largest economies are engaged in trade wars, it affects international markets. There is a worldwide slump.
On Domestic Economy
These wars affect local businesses, citizens, lifestyles, earnings, and employment. Following are the consequences faced at a domestic level:
- High Cost of Raw Material: If the local companies import raw material from an enemy nation, then a high import tariff can increase the cost of production.
- Poor Quality and Expensive Products: In the absence of foreign competition, the local customers are with fewer options. They now have only domestic manufacturers and might have to compromise on quality. Despite the dip in quality, prices can rise as the domestic sellers now have a monopoly.
- Lack of Employment Opportunities: It may result in jobs loss and affect the economy, mainly affecting the companies chiefly dependent on imports.
- Results in Inflation: Since the local product prices go up, there is a risk of inflation.
Frequently Asked Questions (FAQs)
The US-China trade war began in July 2018. US President Donald Trump imposed tariffs on Chinese products worth more than $360 billion. Trump accused China of infringing intellectual property rights. Moreover, it was an initiative to promote American products within the country. In response, China levied tariffs on US products valuing more than $110 billion.
Since late 2019, China and Australia have been in a quasi-tit-for-tat trade war that has left both countries suffering economic consequences. Australia’s complaints range from a lack of transparency regarding the origin of COVID-19 to serious human rights concerns that Australia considers deeply disturbing.
Trade wars restrict the international exchange of goods and services. They make local products expensive, owing to reduced competition. It results in the slowdown of the global economy and inflation within the nation.
This has been a guide to what is trade wars & its definition. Here we explain how trade wars impact the economy along with its causes, effects and examples. You can learn more about economics from the following articles –