My question is, how exactly are tarrifs supposed effect the county on which they are being sanctioned?
For example, how is a 5% tarriff on Mexico supposed to effect Mexico?
In: Economics
So let’s say that I’m building widgets in my factory in Canada. These are fine widgets. I make them for $70 each, and they sell (to stores) for $80. There are also factories in America that produce and sell widgets at around the same price. That puts us in competition; after all, people only need to buy so many widgets per year, but they do need widgets. You can’t *not* have a widget, after all.
American shops buy widgets at around $80, then sell them on to the customer at $100. Everyone gets a profit, and because there’s very little difference in cost, it doesn’t really matter whether the widgets used are Canadian or American. Some people prefer one; some the other.
But say the President wants to boost the American widget industry. He can either do that by putting money into US widgets (either directly or via things like lowering their taxes to make it a more profitable venture), or by making Canadian widgets less attractive. He chooses the latter. He decides that from now on, anyone importing Canadian widgets is going to have to pay an extra $20 to get their widgets across the border. Here’s the logic:
American stores now have a choice between buying American widgets for $80, or Canadian widgets for $100. Given that the market pretty much lets them sell widgets at or around $100, they’re suddenly making *much* less profit on Canadian widgets. To make more profit on widgets, they either need to increase the price they sell Canadian widgets at (making them less attractive to consumers, driving them towards buying American widgets and increasing demand), or they need to stop buying Canadian widgets for resale, meaning that they’ll have to buy American widgets instead. In the long term, if the price of importing widgets from Canada becomes too high, companies might choose to just produce widgets in the US rather than sending their widget-making jobs abroad. That’s jobs for the US workforce, which means taxes for the US government. Either way, it’s a win for the hardy American widget manufacturer *and* the wider population.
In theory.
*Except.*
There are a couple of things that can go wrong here. The first is that Canada does the same thing to American widgets, but also puts tariffs on American doohickeys and thingumabobs. Now the doohickey and thingumabob industry are pissed at you because you’ve just dragged them into a trade war that they wanted no part of; by trying to help one industry, you’ve hurt another.
The second is that some stores may not have access to American widgets to sell. If you sell the kind of widget that they only make in Canada, you’re pretty much boned. All of a sudden, you’re now not making a profit unless you sell your widgets at $120. You can’t afford to keep the store open without it, but because people need widgets, they have to pay extra. Now you’re just hurting the American consumer, because they’re paying more for their widgets.
The third is that American stores don’t *really* want to lose money, and may see a business opportunity. They may just start selling Canadian widgets at $120, but they may increase the price of American widgets too — because after all, if you need a widget and the Canadians can’t drop their prices (because of the tariffs keeping it artificially high), you’re still going to have to spend the money. Why not make them spend $120 on a Canadian widget (giving you $20 profit) or $110 on American widgets (making you $30 profit)?
This is the most ELI5 version. There are lots of other things that can happen too. (Notably, a tariff often has the effect of devaluing the currency of the target population. That means that goods are cheaper when you buy them abroad, which may — in some cases — temporarily make it *more* profitable to buy Canadian widgets if the Canadian dollar takes a hit.)
A tariff is supposed to raise the cost of goods from Mexico, making them less competitive with American goods and reducing sales. In actuality, the exchange rate between the peso and dollar will move in the opposite direction (peso weaker, dollar stronger), reducing the impact of the tariff in the US and making American goods more expensive in Mexico.
So a 5% tariff is essentially an additional 5% tax that companies have to pay upon importing the product. The tariff is supposed to discourage companies from buying from a specific country. In reality, that doesn’t happen. That 5% just makes customers pay 5% more because that is cheaper and/or easier than finding another source for the product.
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