KPMG Economics report shows tariff retaliation would damage global growth

Brendan Rynne, Partner, Chief Economist
Brendan Rynne, Partner, Chief Economist

Governments and businesses around the world have expressed alarm at the possibility of a trade war developing from the planned US tariffs on steel and aluminium and separate tariffs on Chinese imports.

They are wise to be concerned. KPMG Economics modelling shows that retaliation by the rest of the world to US tariffs would cause economies such as Canada, the EU and the UK to tip into recession. It would also create substantial job losses in Australia.

Our report The Re-emergence of Protectionismargues strongly for the retention of global free-trade policies – which have seen world average per capita real income rise from less than US$4000 in 1950 to more than US$15,000 now.

Australia is a case study in the benefits of free trade. In 1973 when we joined the then GATT reduction of tariffs we were a relatively poor country, after decades of inward-focused trade policy. Within 40 years, exports and imports had tripled as a proportion of our GDP, as formerly-protected domestic industries had to reform to survive under global competition and other sectors here we had a comparative advantage thrived.

Our analysis shows that introduction of retaliatory tariffs now would see that beneficial economic process go significantly into reverse.

We modelled four scenarios:

  • A 5-percentage point increase in tariffs by all countries on all manufactured goods;
  • A 5-percentage point increase in tariffs by all countries on all goods, primary and manufactured;
  • A 10-percentage point increase in tariffs by all countries on all manufactured goods;
  • A 10-percentage point increase in tariffs by all countries on all goods, primary and manufactured.

Even in the least-worst scenario, the impacts would be substantial. The Australian economy would contract by more than 0.8 percentage points – the equivalent to AU$15 billion and 130,000 full-time equivalent (FTE) jobs.

The second would see Australia’s GDP contract by 1 percent, equal to AU$18 billion or 150,000 FTE jobs.

Yet we would not be the hardest hit – not by a long way. In the first scenario, Canada’s economy would shrink by 3.4 percent, the EU’s by 3 percent and the UK’s by 2.1 percent – all of them would tip into recession. Even though the overall global economy would escape a recession due to much faster real GDP growth rates of large, emerging economies, such as China and India.

But the most serious scenarios would be a 10 percent tariff hike by all countries on primary and manufactured goods – this would lead to a global recession similar to the scale of the 2009 post-GFC recession which saw the world economy shrink by around 3.3  percent. This scenario would shrink Australia’s economy by $35bm or 285,000 FTE jobs. And the world economy would probably need a longer recovery period given the increased levels of protectionism compared to a decade ago.

Our modelling shows clearly that countries would be wise not to retaliate to any import tariffs by the US. Their economies will be much harder hit by across the board tariffs than the US which would emerge relatively unscathed from the 5 percent scenarios, with a modest 0.37 percent decline in GDP.

Australia’s economy has an ‘elasticity of GDP’ ratio with the US of about 2.3 percent – that is a 1 percent decline in US GDP causes a 2.3  percent decline for Australia.

But others such as Canada’s, the EU’s and the UK’s are much higher – 8.5 percent, 7.5 percent and 5.3 percent respectively. This indicates those countries simply cannot afford to get into any sort of trade war with the US as they would lose out seriously – which is a sobering thought as they enter trade negotiations.

Recent WTO statistics show that over the past 12 months, import-facilitating measures have been more than twice the size of import-restricting actions. This proves that countries know the importance of trade openness. Yet it seems the WTO would not have power to act against any trade wars.

Our modelling confirms that trade liberalisation is key to economic growth and how potentially damaging protectionism is. Everyone would be much better advised to continue the free trade policies which have served the global economy so well since 1945.

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