Economist David Dorn has conducted research on the consequences of China's rise for America. In this FAZ interview, he talks about subsidies, tariffs, and the erosion of free trade.

This interview by Tillmann Neuscheler was originally published in German in Frankfurter Allgemeine Zeitung on 9.6.2024. Translated and edited for layout purposes by the UBS Center. © Frankfurter Allgemeine Zeitung GmbH, Frankfurt am Main. All rights reserved.

Joe Biden recently raised tariffs on Chinese imports such as semiconductors, electric cars, solar cells, and batteries. In doing so, he is reigniting the old trade dispute. What consequences will this have?

Chinese automotive companies will not be able to gain a foothold in the American market. In other areas, such as batteries and solar cells, the USA will continue to import products from China, but American companies and consumers will have to pay higher prices.

The EU is now raising tariffs on Chinese electric cars. Is this a good reaction? Or how should Europe react?

After the Americans effectively banned Chinese automobile manufacturers from the US market with high tariffs, the Chinese will focus their exports on Europe. However, for political and economic reasons, the EU cannot allow its local automobile industry to flounder because of Chinese import competition and is thus introducing tariffs on its part.

You have conducted extensive research on the economic background of the trade war between the USA and China. What are the effects of the rapid rise of the Chinese automobile industry on America?

China's export boom in the 1990s and 2000s contributed to the loss of millions of industrial jobs in the United States during the course of a few years due to strong competition from imports. Economists have long underestimated the impact of this "China shock".

To what extent?

For economists, the idea of efficiency is traditionally very important, but distributional issues have long been neglected. It was assumed that the economic efficiency gains from international trade were large enough that the winners could simply compensate the losers, and everyone would benefit in the end. Theoretically, this is a good argument, but in fact the losers are often not compensated.

How did the dark side of globalization manifest itself in America?

Many small American towns have lost their most important factories, and these had formed the economic core of the local economy. Unemployment rose rapidly, as did crime, and alcohol and drug abuse. Even many years after the factory closures, these towns continue to have reduced employment and income levels.

Which regions were particularly affected by the "China shock"?

Chinese competition from imports only partially affected the well-known "rust belt", i.e. the old industrial regions around the Great Lakes, where automobile and steel industries were already suffering. Particularly affected were areas directly south of this area, such as North Carolina, Virginia, Tennessee, and Kentucky.

Why there?

Because of the industry structure. Decades ago, low-wage industries settled in the less developed American South. However, they were unable to keep up with China in the competition for the most cost-effective production. This affected manufacturers of textiles, leather goods, toys, furniture, and home electronics, for example. In some small American towns, industry was entirely focused on one sector. The small town of Martinsville in Virginia, for example, specialized almost entirely in furniture production. When cheap furniture from China came onto the market, however, one factory after another was forced to close.

Did the upheavals caused by the China shock in America lay the foundations for the polarization of society and thus pave the way for Donald Trump?

Yes, we were able to show that Donald Trump achieved greater electoral success in the regions that the China shock hit particularly hard.

Trump has promised them to take action against China. Just like Joe Biden is doing today. In 2018, the tariffs were increased significantly, first on washing machines and solar cells, then on steel, aluminum, and metal products, and later on almost all Chinese products. What were the consequences?

This was based on the belief that lost jobs could be brought back. But that doesn't work. We have investigated the impact of the Trump tariffs. They have not brought back any jobs. Instead, the Chinese imposed counter-tariffs on American exports. That has made the situation worse.

How?

The counter-tariffs targeted the American agricultural sector in particular. Areas that specialize in cotton and soybeans in particularly were affected. As a result, the Americans increased their agricultural subsidies. However, these could not compensate for job losses in agriculture. Overall, according to our findings, Trump's tariff policy has not created any new jobs, but prices for American consumers have risen due to more expensive imports.

But politically, the tariff policy has helped Trump, hasn't it?

Yes, the China shock has deeply unsettled many Americans. The tariffs against China are quite popular in America, even though they have no economic benefit. Politically, the tariffs have helped Trump, as he did better in the last elections in regions where industries received tariff protection. Moreover, Joe Biden never rescinded the tariffs against China and recently even announced new tariff increases. The Democrats have also recognized that the tariffs on Chinese products are very popular among the people, despite their questionable economic impact.

How come?

I have two hypotheses on this: One is that the Trump administration has portrayed its tariff policy as having created tons of jobs. In other words, some voters fell for the government's factually incorrect propaganda. It is interesting, however, that according to polls, there are also Republican voters who support the Trump tariffs even though they see them as economically disadvantageous for the USA. My second hypothesis is that some voters thus understand the limited economic benefit of the tariffs, but at the same time appreciate it when the government sends a signal in support of impoverished industrial cities and takes action against its competitor China. Many see the tariff policy as a well-intentioned measure that was not particularly successful economically, but at least it also hurt China.

Biden has continued Trump's tariff policy. He essentially retained Trump's tariffs and is now adding to them...

The US Secretary of Commerce has long said that maintaining the tariffs is in the strategic interests of the US. Biden is well aware that lifting Trump's tariffs would be exploited in the election campaign as a sign of weakness towards China. On the contrary, with the recently announced new tariffs, Biden is trying to demonstrate strength towards China and position himself as a defender of American industrial jobs.

Is Biden's industrial policy any different from Trump's?

Trump has introduced new tariffs on almost all Chinese products. Biden, on the other hand, is focusing his economic policy more strongly on key technologies. On the one hand, the Americans are trying to cut China off from certain technologies such as state-of-the-art computer chips. On the other hand, America is attempting to become independent of China by promoting industries in the field of green technologies, in particular through targeted subsidies.

... on the so-called "Inflation Reduction Act" ...

... which, despite its misleading name, is actually a large subsidy package for the American economy.

Since then, a gigantic subsidy race has been set in motion around the world. Where is this leading?

American subsidies have also put the EU states under severe pressure to act. This is painful for Europe. The EU itself has actually set the goal of ensuring that there are no subsidy races between nations. Because key European industries are now coming under pressure - such as the German and French automotive industry - there are also calls for higher subsidies in Europe as long as foreign competitors are supporting their respective industries with high subsidies.

We Germans are also trying to attract companies like Intel with billions in subsidies. What do you think of this?

I think that is very risky. The subsidy race that is just beginning is a really new development on this scale. Building up our own chip industry devours very high fixed costs; it involves gigantic sums of money. At the same time, chips become out-of-date very quickly because technological development proceeds at a rapid pace. There is a risk that a lot of money will be invested in a product that could soon become obsolete in short time.

Politicians are driven by the hope that such a biotope can be built with a lot of money, which will repeatedly allow new items to flourish. Rightly so?

An innovation cluster like Silicon Valley is not so easy to imitate. Many have already tried. It requires a combination of many different elements: Research in top universities, readily available venture capitalists, highly qualified employees, and much more for something like this to emerge.

Free trade has had a hard time in recent years.

Yes, the tariffs are a huge breach. For decades, we were on the road to more free trade. Both the tariffs and the recent subsidy race are a reversal of the previous trend towards an increasingly free and globalized world economy.

And was this all triggered by the China shock?

Indeed. China has set out to build industries with state aid and to dominate in key technologies. America and Europe have been accusing China of supporting its industry with illegal subsidies for years. Attempts have long been made to persuade China to refrain from these practices. In the meantime, however, the dynamic has changed considerably. America and Europe are now opposing China with their own subsidies and trade barriers - even though these are actually considered undesirable. The broad front of support for free trade has eroded.