Trade wars and their implications for developing countries

At the risk of damaging both countries, the United States initiated a rapidly escalating tariff war with China in March 2018. Two years later, the conflict has not been resolved, and threatens to undermine the rules-based multilateral trading system, as well as sparking a global recession. With the help of a multi-region CGE model, we estimate the optimal across-the-board tariffs for the USA on imports from China. In the absence of retaliation, we find the optimal tariffs are positive, and somewhere closer to the 10 additional percentage points initially imposed rather than the 25 additional percentage points. At 25 per cent, the United States is making itself worse off. Using the eight-digit tariff increases as proposed in December 2019, we aggregate to the GTAP sector level and analyse the trade and welfare effects on the United States, China and third countries assuming the standard long run closure. Results indicate that the US may enjoy welfare gains of $4 billion while China would lose $21 billion. If China retaliates, the US losses are estimated at $16 billion while China loses $29 billion. Thus, China is worse off, but in retaliating it provides the United States with an incentive to negotiate. We show that the effects of a tariff only trade war may be beneficial to third countries, especially those that can supply the products that attract significant tariffs. In general, most countries benefit from the trade diversion that occurs. Developing countries gain $14 billion in annual welfare, with Brazil, Mexico and Vietnam benefitting the most. The trade war has been overshadowed in recent months by the corona virus pandemic, which has severely interrupted trade. Global supply chains are likely to be permanently affected. Trade tensions are likely to re-emerge once international trade starts up again.