Protectionism, the dollar and US energy ‘dominance’

I betray no secret when I report that government policies often operate at cross purposes, a reality illustrated well by the efforts of the Trump administration to use tariffs and other forms of trade protectionism as tools to prop up particular industries and/or to force concessions on trade barriers imposed by China and other countries. 

The administration, from the beginning of its tenure in office, also has promoted as one of its central goals an increase in U.S. energy “dominance” in the form of an expansion of American energy exports.

Even if only by getting out of the way, the administration can claim to have succeeded in that effort: Since 2016, U.S. coal exports have increased by 82 percent, crude oil and petroleum products by 44 percent and natural gas by 54 percent. 

Yet some warning signs are obvious. The year-over-year increase for all U.S. energy exports for 2017-2018 was only half that for 2016-2017, despite almost no change in real global GDP growth.

Tariffs on such inputs to energy production as steel pipe and wellhead equipment have the effect of increasing costs and thus reducing investment incentives.

China has announced an increase in its tariff on liquefied natural gas imported from the U.S., effective June 1, and there are numerous reports that China in the face of U.S. trade policies is turning to East Africa, Australia and Russia for future growth in LNG supplies, thus leaving U.S. exporters out in the cold. 

But there is something a bit puzzling about these reports. Consider the U.S.-China trade relationship: Tariffs and other measures directed at each other by the two nations ought not affect significantly the overall global market for the goods targeted directly; coal, petroleum, and LNG are good examples.

Just as China can buy from alternative suppliers, the U.S. can sell to alternative buyers. Certainly there are short-run rigidities —pre-existing contractual arrangements, differential transport costs, differences in the specific physical properties of the energy forms being traded, etc. — but such obstacles to a reallocation of supply sources and buyer markets are hardly insurmountable.

Competitive markets almost by definition are nimble, a reality that reveals itself when natural disasters, supply disruptions, unexpected economic shifts and other such factors change market conditions significantly, in the face of which more-or-less smooth adjustments driven by price signals usually are observed.

And so the common argument that the slowdown in U.S. energy export growth is the narrow result of the ongoing protectionism game with China is rather incomplete. Instead, one important parameter not noted often in the public discussion of the U.S.-China trade dynamic is the impact of the strengthening dollar attendant upon U.S. protectionist policies, which have the effect of reducing imports and thus the number of dollars sent overseas.

A stronger dollar means reduced competitiveness for U.S. exports, as foreign purchasers find that the prices of U.S. goods rise in terms of their own currencies.

Over the last year or so, the trade-weighted exchange value of the dollar has increased by approximately 6 percent:

• 10 percent against the Chinese RMB;
• 11 percent against the euro;
• 5 percent against the Japanese yen;
• 13 percent against the South Korean won;
• 12 percent against the British pound;
• 10 percent against the Canadian dollar;
• 15 percent against the Australian dollar;
• 9 percent against the Swiss franc; and
• 5 percent against the Mexican peso. 

In a nutshell, this means reduced competitiveness for U.S. exports, and energy commodities are likely to be especially vulnerable to this dynamic because they are not very unique; close substitutes are widely available.

Yes, the dollar exchange rate is affected by numerous factors in addition to trade policies: interest rates, economic growth, inflation rates, trade balances, the demand for dollar-denominated assets, and on and on. Trade flows similarly are affected by numerous variables, as is the case for energy exports.

But the central reality remains incontrovertible: There are no free lunches, and protectionism cannot yield improved market conditions for every sector.

The strengthening dollar attendant upon the imposition of tariffs and other such policies means that the increased employment and other effects observed in the favored sectors must be offset by reduced employment and the like in other sectors; protectionism has the effect of shifting resource use among sectors rather than increasing resource use and output in the aggregate.

As an aside, a stronger dollar resulting from market conditions — a favorable U.S. investment climate, low inflation, etc. — is salutary for the economy as a whole, yielding an expansion in the aggregate availability of goods and services.

An artificially-stronger dollar resulting from protectionism and other forms of market meddling by government? Not so much, as the interference with market price signals and structural outcomes must make the economy smaller by reducing the efficiency of resource allocation.

In any event, the travails currently being experienced in the U.S. agricultural sector are no accident; the recent response from the administration is a proposal to increase welfare payments to the farmers affected adversely.

The “energy dominance” goals loudly advertised by the Trump administration are inconsistent with its trade protection policies now being implemented against China and perhaps others. This is a reality not being reported with sufficient clarity, thus perhaps yielding too little recognition by policymakers.

Benjamin Zycher is a resident scholar at the American Enterprise Institute.