By Carl Tannenbaum

The word “tariff” is descended from an Arabic word meaning “notification.”  Last week, the United States placed China on notice with a new round of punitive tariffs.  The near-term impact of the new measures is likely to be limited, but they raise a host of long-term concerns.

Across the world, a handful of major themes are driving economic strategy.  Designing an energy transition to alleviate the consequences of climate change and developing artificial intelligence (AI) to enhance productivity are two of them.  Many nations desire to be world leaders in these areas, and their governments have been increasingly engaged in industrial policy in an effort to come out on top.

For China, primacy on these two fronts is not only a long term objective.  In the near term, improved exports are key to overcoming a series of economic headwinds that are hindering growth.  Beijing has long sought to establish champion firms who can dominate global markets, but this effort has taken on additional urgency amid weak domestic demand and strong international competition.

American trade policy seeks to limit China’s advances in critical industries.  The view in Washington is that Chinese sponsorship of production places U.S. providers at a disadvantage, which tariffs are intended to remedy.  And having native capacity to produce strategic goods is important to national security. The United States does not want to become overly dependent on Chinese semiconductors or batteries.

In announcing the new tariffs, the Biden administration extended a strategy that had been used extensively by its predecessor.  All of the restrictions placed on China since 2018 remain in place, and the list is likely to get longer in the years ahead.  Trade control, especially aimed at Beijing, is one of the very few areas where the Republican and Democratic parties are somewhat aligned.

The announcement of heightened tariffs on electric vehicles (EVs) is unlikely to have much of an impact.  U.S. sales of EVs last year totaled 1.6 million units, less than 7% of total vehicle sales.  Virtually none of those were Chinese imports.  Europe is a much bigger market for Chinese EVs, and so the European Commission’s current review of trade fairness in this space has the potential to be more significant.

The increased levy on batteries is another story.  More than 70% of lithium-ion cells used in the United States are sourced from China.  These components are central not only to EVs, but also to a range of consumer electronics and the transmission of alternative energy.  Apart from lithium, China dominates control of the global reserves of other raw materials that are critical to manufacturing long-life batteries.  It will therefore be very challenging for the U.S. to develop domestic capacity that would replace Chinese supplies, even in the presence of higher tariffs.

For the moment, China seems unlikely to retaliate in any great measure.  Beijing has little appetite for a broad escalation in trade tensions, as it would make the challenge of avoiding deflation more difficult.  While tariffs generally increase inflation in the countries that apply them, the impact to American inflation is likely to be very small in the quarters ahead.

But as the world moves further away from free trade and the embrace of comparative advantage, inflation will almost certainly increase.  As well, the growing protection surrounding products and components which are important to global energy transition will make it even more difficult to contain climate change.  The tariff increases announced earlier this month are in direct conflict with the Biden administration’s efforts on this front.

Finally, each increment in trade friction between the United States and China raises the geopolitical friction between the two.  The social and economic costs of this troubled relationship are becoming more noticeable.