Subject: Re: CBS Interview With Warren
Lots of economists think we'd better off taxing consumption, which is the enemy of productive investment, rather than taxing income, which is the friend of working hard to be productive. Is there any particular reason to think Tariffs are a worse way to do that than is a VAT or a national sales tax?

The ideas are similar.

First, a bit of background:

I believe the US is the only OECD country without a national sales tax or value added tax. I think the next biggest economy in that situation is Hong Kong.

Governments do need tax, and the best tax is the one that hurts and distorts the economy the least and is not too expensive to collect and enforce. (Jean-Baptiste Colbert's maxim: the art of taxation consists in so plucking the goose as to obtain the largest possible amount of feathers with the smallest possible amount of hissing) The last few centuries have shown that a value added tax (one of the variants) is the best for that. The US has a modern economy and a nineteenth century tax system, which is really the main reason for the generally huge deficits: the current tax system just isn't structured in a way to balance the books without breaking a lot of stuff (too much hissing in some quarters, so it can't be balanced). A national sales tax is badly needed, but good luck getting re-elected after introducing one.

As to the question you raise:

So, is a broad set of tariffs the same thing? It's similar. To a first approximation a broad set of tariffs is a sales tax, but applied only to foreign goods, so it discriminates against those in favour of locally produced goods. So, at the first level it sounds like a good idea. The problems show up in the second and third order effects, which are in this case dominant. Other countries will tend to do the same, for a variety of good and bad reasons. Global trade as a fraction of GGP will fall a lot, a little if the other countries don't join in, a lot if they do. Aggregate global wealth will fall a lot, since division of labour is the cause of virtually all wealth above subsistence: it's not something you want to reduce. At the extreme, imagine personally making everything you and your household consumes. So, the pie will be smaller, and countries will be left fighting over the shrinking pieces. Pretty much everyone is worse off. Smoot-Hawley didn't cause the great depression, but the massive global rounds of tariffs and the concomitant 65% collapse of world trade sure made it broader and deeper and longer lasting.

The key observation is that there are lots of things that make no sense to produce in the US; the law of comparative advantage is the one best example of a conclusion from economics that is simultaneously true, non-obvious, and very important. To summarize, for those not familiar with the idea: imagine two countries, A and B. The only two products are wine and cheese. Both countries produce both items, and the products of both countries are considered equivalent. Everybody likes to have some of both. Country A is 20% more productive at making wine than country B, AND is 50% more productive at making cheese than country B. The non-intuitive but demonstrably true result is that if country A focuses mainly on making cheese and country B focuses on making wine, and they trade with one another, BOTH countries are better off. Even though country A is better at everything.

Like anything, you don't want to go to the extreme: efficiency is the enemy of resilience. A resident of country A would not want to be importing 100% of the much-desired wine, as something could happen to the supply chain and you'd get thirsty. But a *focus* on importing wine from countries with a comparative advantage in winemaking (but not necessarily an absolute advantage) will make everybody better off. The resilience argument: If you imagine a country of whose exports crude oil makes up over 80%, you can see that some modest carefully selected tariffs are probably not such a bad idea to promote the relative importance of whatever their second largest export is. It could be an aid to diversification and resilience, if not efficiency. Perhaps an export subsidy on the second and third largest categories of export would be a better idea, but export subsidies are frowned upon even more by places that compete in that same marketplace. If the end user's price goes below the producer's cost of production, that's the (original, meaningful) definition of dumping.

Jim