Monday, January 9, 2012

The absurdity of trade retaliation

My posting has been light of late, mainly due to the holidays, but news in the new year has not stopped rolling in. As we ended the year, the US has been proceeding on its investigation of Chinese products, deciding whether or not to impose antidumping duties on, among other things, solar panels. You might argue that all an investigation has to do is read back issues of the New York Times and Wall Street Journal, but there are some rules that go with this.

Antidumping tariffs can be unilaterally imposed under WTO rules by the aggrieved country provided there is a formal investigation; however, there is no external monitoring of each country's process. While one can be reasonably certain that most antidumping duties have at least some justification behind them, more often than not they are the ammunition of tit-for-tat trade wars, since most products that receive some form of subsidy are not covered by these duties. In less democratic countries, the process is also likely to be less transparent and more politically motivated.

China has responded, predictably, by launching retaliatory proceedings on the US' main export to China: foodstuffs and agricultural feedstocks, like DDG (used to feed livestock).  However, I'd argue that Chinese trade retaliation of this type is not only petty and silly, but also actively harmful to Chinese goals.

On the face of it, claiming that US exporters of foodstuffs are "dumping" on the Chinese market is absurd, not least because American farm subsidies (approximately $25.5 bn in 2011) are dwarfed by Chinese subsidies ($147 bn in 2011). Magnitude is also not the only difference; the support rendered to American farmers constitutes maybe 7% of farming costs, while for Chinese farmers it is 17%. This is spectacularly large, considering it that was only in 2004 that China radically altered its traditional policy of taxing the rural hinterland to support city dwellers and moved towards supporting farmers.

One could argue that these subsidies were the product not only of a government trying to push down food price inflation and promote food self-sufficiency, as that linked USDA paper implies, but also to forestall civil unrest; regardless of the reason, it has not stopped Chinese food prices from skyrocketing to far higher levels than in the United States. Rather than merely assert this, I thought I would gather some data and show the relative price levels in China for corn (I refer to it as "maize" in most of my technical work so as not to confuse it with wheat) compared to the United States.
 Sources: FAPRI-MO 2011 Annual Report, China Commercial Information Forecast (published by the China Ministry of Commerce)
The graph above is adjusted for currency fluctuations. Note that I present the FOB cost of corn in the US represents the price at primary export terminals in the United States, not the price in China. The Chinese price given is the market clearing price in Henan province. During this entire period, China was importing food from the US. Nor can shipping costs explain the full difference, see here.

In real terms, the price of food in China reflects its status as not having a comparative advantage in food production. It should be telling that despite our relatively smaller subsidy regime and high labor costs, Americans still export food products to China. "Dumping" it may be, in the narrow sense of exporting below cost of production given the presence of subsidies, but I find it hard to see where China can benefit from enacting a retaliatory tariff to increase the price of imported agricultural resources.

In fact, if we do a shallow analysis of the pricing difference, we find that modeling China's corn price as about 1.9 times the American FOB cost is, actually, a pretty decent model. All of this is a roundabout way of saying something very simple: The United States has a clear comparative advantage in the production of food relative to China. Placing tariffs as relief from "dumping" from a country that has such a massive comparative advantage changes nothing about the situation more than would barking at the moon.

But there China goes, threatening to impose heavy taxes on an already domestically dear commodity, risking renewed food price inflation for national pride and political leverage. Even with tariffs, the outcome in the US is unlikely to change: the dumping charges from China are politically motivated and are taking place in an election year. If implemented, this would make such a policy actively counter to Chinese goals of holding down food price inflation and accomplish little strategic advantage. I would say that it makes this posturing a form of brinkmanship that will be reversed, but the Chinese government has a history of enacting policies that ultimately hurt its national standing and economy, so I can't say for sure.

To be perfectly fair to China, this is not the only absurd trade war occurring in the renewable energy. European ethanol producers are calling for investigation of American ethanol dumping, even though European farm subsidies, at $105 bn per year, dwarf American subsidies of approximately $26 bn per year, and heavy EU subsidies to corn, wheat, or even grape ethanol producers are no longer matched by anything comparable in the US following the expiration of the VEETC and ethanol tariff at the beginning of this year. The case depends heavily on the VEETC, in fact, but may not fall apart due to the aforementioned direct subsidies to agriculture in the US. However, basing the case on the VEETC was a little bit silly to begin with, since the subsidy only applied to US blenders and fuel vendors, not the ethanol industry itself. While a subsidy of this type provides a guaranteed domestic market at higher prices than the fuels would otherwise get, producers still need to sell their export ethanol at prices at or above their cost of production. Exports of US ethanol to Brazil, for example, are profitable not because they receive a direct subsidy, but because Brazil has a large domestic ethanol market with high prices encouraged by high global sugar prices, poor cane harvest, and the strong Real. Either way, the absurdity abounds.

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