Pedro da Costa: Hi, I'm Pedro da Costa, Editorial Fellow here at the Peterson Institute for International Economics. I'm joined by Marcus Noland. He's Executive Vice-President and Director of Studies, and he's just conducted a very big study, head of the US election this year. Now, the study focuses on the trade aspect of the campaign promises. Tell us a little bit about what the genesis of the work was and give us a taste of what some of your findings are.
Marcus Noland: Well, quite frankly, trade policy issues have generally not been a top tier political issue in the United States. For about 80 years, there's been a broad consensus in the United States that open trade and support for a liberal rules-based international order was in the US interest. That support has been fraying as the role of trade has increased in the United States economy and as the US has failed to provide safety nets for those disadvantaged by these changes.
Finally, it's all come to a head in this election, in which both of the major presidential candidates, Donald Trump for the Republicans and Hillary Clinton for the Democrats, are departing from that consensus. And indeed, in the case of Mr. Trump, he has made disastrous trade deals a centerpiece of his explanation of American economic was. So trade has risen to the top of the political agenda. And we decided to examine the policies of the two candidates.
Pedro da Costa: Now, can you tell us a little bit about the methodology that you used and the data you employed and what you were trying to achieve as far as your findings?
Marcus Noland: Well, what we did was we took a conventional large-scale macroeconomic model, this one operated by Moody's Analytics, to provide basic macroeconomic framework. And then we married that with something that we created, a 389-sector social accounting matrix that basically shows how—what goes on underneath those big numbers produced by Moody's. We then overlaid that with activities matrices for economic activities at the state and local level.
So what we can do is we can generate highly granular results showing what particular sectors will be affected by these various policies and what particular states and counties will be affected by these policies as well.
Pedro da Costa: Now, let's talk a little bit about the two candidates and what they've promised. I think that in your paper you called Hillary Clinton the status quo candidate pretty much on trade. Even though she has had some anti-trade rhetoric in her campaign, she is not widely seen as likely to divert from the traditional US stance to renege on existing trade agreements or she hasn't promised to. So what are we likely to see if we get Hillary Clinton as president?
Marcus Noland: Well, I think we actually called her the candidate of stasis. What she is not proposing reneging on anything, but she has come out in opposition to the major piece of trade legislation on the table now, the Trans-Pacific Partnership or TPP. This is regrettable. Estimates done here at the Institute suggest that TPP would deliver about $130 billion of benefits to the US economy every year. So, opposition to TPP is economic gains foregone as well as harming US diplomatic interest in Asia which we may come back to.
Apart from opposing TPP, Secretary Clinton supports creating a chief trade prosecutor office, somebody who will keep an eagle eye on whether partner countries are implementing their parts of these deals as well as concern about currency manipulation with respect to other countries including China. So basically, her trade policy is no new agreements and tougher enforcement of existing ones.
Pedro da Costa: And you expected economic impact from that would be sort of fairly marginal. Is that fair?
Marcus Noland: Well as I said, really, it's not that she would impose losses. It's simply the gains that we could have had if we passed TPP, for example will be foregone.
Pedro da Costa: Okay. Now, let's talk about the other candidate, Republican Donald Trump. He's proposing fairly radical actions including raising tariffs on China, I believe, to 45 percent and on Mexico to 35 percent. So talk a little bit about some of these scenarios that could unfold under a Trump presidency.
Marcus Noland: Well, first thing one has to say is unlike his carefully scripted opponent, sometimes it's a little hard to pin down Mr. Trump on the specifics. He tends to speak off the cuff. His campaign does not produce sort of voluminous briefing materials as a traditional campaign would.
But he's made a number of statements repeatedly which seemed to be the core of his trade policy. One is imposition of punitive sanctions on Mexico including the possibility of firm specific tariffs, which will probably violate both the United States Constitution as well as our World Trade Organization obligations.
Punitive tariffs on China, you mentioned the 45 percent figure that he mentioned in an interview with the New York Times. Beyond that, he's talked about going back to ground zero reexamining and perhaps abrogating existing free trade agreements not only NAFTA involving Canada and Mexico, but he's focused a lot on the KORUS agreement with South Korea, which he describes as a job killer.
And finally, he's actually mused about pulling out of the WTO. That would be an absolute disaster. The United States could find itself back in the Smoot-Hawley world of the 1930s with punitive sanctions put up against us by all sorts of trade partners if he were to go forward with that.
Pedro da Costa: So talk a little bit about the economic damage that might ensue from either a worst case scenario or even a mild version of what Trump could implement.
Marcus Noland: So in our modeling, we examined three scenarios. The first scenario we call a trade war. And in that scenario, the United States imposes a 35 percent across the board tariff on Mexico, a 45 percent across the board tariff on China, and they respond in kind. So they put up 35 and 45 percent tariffs against all American goods.
Pedro da Costa: And I assume that's not out of the question because this is how countries tend to react.
Marcus Noland: Oh absolutely. And both China and Mexico, especially China, in their dealings with the United States in the past have shown no reluctance to retaliate when the United States does something. So in that scenario, the United States economy goes into a mild recession. Private sector job losses relative to baseline are 4.8 million. Those are concentrated in the capital good sector and some mining sectors because investment in the United States really goes down.
When we examine the geographical incidents of it, Washington State is the worst affected state losing 5 percent of its jobs relative to baseline. But then there's a broad swath of states that lose 4 to 5 percent of their jobs. And these include a number of so-called battleground states. We have North Carolina in that group, Pennsylvania, Ohio, Wisconsin, and so on.
So it's a scenario in which there's a recession, significant job loss in the United States, and we even look at the specific areas. The worst affected counties happen to be two counties in California in Northern California which lose 7 percent of their jobs.
A second scenario we examined is we call asymmetric trade war. And in that scenario, China and Mexico do not put the across the board tariff on the United States, but they respond in other ways. And specifically, we look at three possibilities, three illustrative possibilities. First one is China halts purchases of US aircraft. The aircraft sector is a very contentious sector because a lot of purchases are effectively state purchases. And in the case of aircraft in terms of wide body aircraft, Airbus is a clear alternative to Boeing. So one of the things we examined is China halting aircraft purchases.
Another one we examined is a kind of buy no American policy where the government of China tells its state-owned enterprises stop buying American business services. So that really affects software, financial services, and so on.
A third possibility is an embargo on soybeans. US-China bilateral trade in soybeans is a quarter of the world market. And so, China just puts on an embargo.
In that first one in the aircraft scenario, obviously you have a significant fall of employment in the aircraft sector. And it's highly geographically localized because aircraft production is highly geographically localized; the Seattle area, Seattle-Tacoma, Everett, Washington, very hard hit, Wichita, Kansas, hard hit, parts of Connecticut and Texas where Pratt & Whitney produces engines, hard hit.
In the case of the business service scenario were the state-owned enterprises stop buying business services and our exports of business services to China fall by about 40 percent, the map of counties that are worst affected in that scenario is particularly a map of high tech America; Silicon Valley, Seattle again, poor Seattle, New York City, Boston. Other areas of the country known for high tech production and services production are hard hit in that scenario.
Pedro da Costa: So you really do get the possibility of very major and persistent disruptions in trade.
Marcus Noland: Sure. The final scenario, the one in which the Chinese have an embargo against soybeans, that's the one that would probably be the least persistent because soybeans is a commodity. And it would take, we estimate, about one year to reorient trade both on the Chinese side and on our side. But during that one year, there are counties in Mississippi, Arkansas, and Missouri that are absolutely devastated.
There is one county that suffers between direct impact on soybean production and all the ancillary employment associated with that. People working in various types of ancillary agricultural activities plus just people in town working at the local restaurant and the local bank and so on; 40 percent job loss in one of these counties. We have several counties where the job loss is in the order of 20-25 percent, 15 percent.
So unlike some of the urban areas like, say, Seattle or Los Angeles or New York where you lose 2, 3, or 4 percent of employment in this scenario, some of these rural counties in Arkansas, Mississippi, and Missouri are absolutely devastated for a year because of the soybean embargo.
The final scenario we looked at is what we call the abort of trade war. In this scenario, the US imposes the tariffs. But because of either congressional action, action in the courts, or simply public outcry, the administration is forced to stand down in reverse field.
In this scenario, the macroeconomic effects are much milder. You don't get the recession. You don't lose 4.8 million private sector jobs. But what's interesting in this scenario is the Chinese have a secret weapon. The secret weapon in this scenario is the iPhone.
Chinese value added on iPhone is only about 4 percent. So it wouldn't cost the Chinese a lot to simply shut down iPhone production in China. But it would cost the United States a lot. iPhone prices would go skyrocketing. They have estimates of how much it would cost to reproduce the production done in China in other areas. And that's one thing that we get into our report that is really quite important.
Supply chains are now ubiquitous. They're heavily oriented in Mexico and China. Shutting down trade with Mexico and China would have ripple effects in ways that people don't think about.
Pedro da Costa: Including on US firms who have operations in those countries.
Marcus Noland: Oh absolutely. US firms that have operations in those countries, US facilities that depend on imports for those countries. Think about automobile assemblers who are assembling automobiles here in the United States, but they're getting their imported parts from Mexico. So even in this mild scenario, the effects could be quite profound.
We know as modelers that our models are not adequate to capture those very nuance supply chain linkages. But I think the real question that should be in people's minds is we know for sure that the Trump campaign has absolutely no grasp of the implications for supply chain management in the implications for production in the US of disrupting supply chains in the way that they sort of casually contemplate.
Pedro da Costa: So we focus largely on the economic and trade impact. I want to ask you lastly about the political effects of this new wave of anti-trade isolationism in the United States, which is bipartisan. What could be the impact on US leadership abroad if either Hillary Clinton or Donald Trump decide to turn their backs on the world and renege on a trade deal that the prior president had signed and so on?
Marcus Noland: Well, let's start there with the TPP in Asia. The US failing to ratify the TPP would cede the lead in policy-making in the trade policy area to China. And that leadership in trade policy would extend to other areas of diplomacy as well. So it would be really ceding leadership in the Asia Pacific to China.
Moreover, what we do in the trade policy area could be reflective of other areas and create uncertainty and anxiety in Asians about the US overall commitment to Asia. One of the things that people don't realize is that in Northeast Asia there is an arms raise already underway. And the perception that the United States might not be steadfast or the perception that the US alliances with South Korea and Japan might be weakening could set off unpredictable sorts of developments in Northeast Asia including promoting nuclear proliferation, something that strangely enough Mr. Trump has commented upon favorably.
Apart from the effects of abrogating or not passing TPP in Asia, the policies that Mr. Trump has advocated including going back and abandoning or abrogating existing free trade agreements could have a very bad effect in the Middle East where we have free trade agreements with a number of moderate Arab states. And those are countries that face tremendous problems with youth unemployment and youth radicalism. The last thing they need at this moment is the United States to undercut their economies.
And again, what we do in the economic sphere would certainly have effects in terms of cooperation in counter-terrorism and other aspects of US national security.
And finally if we think about our southern neighbor, Mexico, historically the United States has had very problematic relations with Mexico. NAFTA was a real turning point. It strengthened the ongoing process of economic, political, and social reform in Mexico and really put Mexican-American relations on a much more positive path.
For the US to pull out of NAFTA would be a severe blow to the Mexican economy and ironically could lead to increased incentives for illegal migration and drug trafficking, not less migration and less drug trafficking.
Pedro da Costa: Very interesting. Thank you so much, Marcus, for a very rich and interesting report. I appreciate it.
Marcus Noland: My pleasure.