International Trade Theory and Policy
by Steven M. Suranovic
US Tariff Policy: Historical Notes
The adjoining diagram depicts average trade-weighted tariff rates in the US between 1821 and 1995. This rate is calculated by dividing the value of tariff revenue by the total value of imports in each successive year. The graph displays a few important points.
First of all, notice that average tariff rates have fluctuated, sometimes significantly, during the past 175 years. In part this reflects shifting attitudes regarding the appropriateness of free trade versus protectionist policies. Tariff rates also were usually raised when the country was at war since additional tariff revenue would be needed to finance wartime expenses. This is why, for example, there is a dramatic increase in tariff rates in the 1860s during the US civil war. Tariffs were also likely to be raised during depressions. This accounts for the sharp increase in tariffs in the early 1930s at the onset of the Great Depression.
Because tariff revenue was a primary source of funds for the federal government in the 1800s, tariff rates were, on average, much higher than they are today. After the US passed the 16th Amendment, allowing the government to levy income taxes, tariff revenue began to contribute less and less to federal government revenue. This allowed tariff revenue to fall, rather than rise, during US involvement in World War I in the late 1910s.
When the Great Depression hit the US in 1929, the US responded with a dramatic increase in tariff rates with the passage of the Smoot-Hawley Tariff Act of 1930. The intent was to protect US businesses from foreign competition and help reduce the growing unemployment rate. However, more than 60 US trade partners swiftly retaliated with higher tariffs of their own. The final effect was to reduce world trade in the 1930s to less than one fourth the level of trade that had occurred in the 1920s. Most economists now believe, and it quickly became obvious to many politicians at the time, that the higher tariffs may well have contributed to the depth and length of the Great Depression.
In 1934, the US Congress passed a bill which began a steady movement in the direction of trade liberalization. The Reciprocal Trade Agreements Act (RTAA) of 1934 authorized the President of the US to negotiate bilateral tariff reduction agreements with other countries.(1) The prevailing view was that trade liberalization was necessary to help stimulate economic growth. However, no one country was willing to liberalize unilaterally, since that would allow more foreign products into its domestic market but would not open foreign markets to its exports. If two countries negotiated on a bilateral basis, though, then each country could offer concessions of tariff reductions in certain product categories in exchange for similar tariff concessions on other products by its trade partner. Between 1934 and 1945, the US president negotiated over 32 bilateral trade liberalization agreements with other countries.
The General Agreement on Tariffs and Trade (GATT)
The General Agreement on Tariffs and Trade arose out of the discussions that took place in Bretton Woods, New Hampshire, in the US during 1944. The conference was convened to plan the institutions that would regulate international economic relations in the post World War II period. Three main economic institutions were planned: the International Monetary Fund (IMF), the International Bank for Reconstruction and Development (IBRD, aka the World Bank), and the International Trade Organization (ITO).
The IMF was designed to help nations that might suffer from balance of payments problems. Balance of payments problems can be severely destabilizing in a country with a system of fixed exchange rates, as was set up in the post war period. For more information about the IMF go to http://www.imf.org/
The World Bank was designed to facilitate the provision of loans to countries requiring reconstruction after the war and to alleviate poverty in less developed countries. For more information about the World Bank please go to http://www.worldbank.org/
Although a charter was written for the ITO, the US Congress failed to ratify it and thus it never came into being. However, the GATT was signed by many allied nations in 1947 and it did achieve its goal of advancing trade liberalization.
The GATT had two main guiding principles: multilateralism and non-discrimination.
Multilateralism is embodied in the seven tariff reduction rounds which occurred between 1948 and 1994. In each of these "rounds", all GATT member came together to negotiate mutually agreeable trade liberalization packages. In a sense, the objective was to achieve trade policy changes that could generate consensus among all participants. It was believed that this was a superior process to one in which countries made bilateral deals which might discriminate against other members.
Non-discrimination is embodied in the most-favored nation (MFN) principle. MFN is somewhat of a misnomer. It does not mean that one country receives more favorable treatment than others. Rather, it means that a country must offer the best tariff rate that it has in a product category to all countries that are GATT signatories (members). In other words, if the lowest tariff rate the US charges on auto imports is 2.5%, then it must charge 2.5% on imports of autos from all other GATT members. In this way it does not discriminate against any country, and each country is said to receive MFN privileges.
As a result of the passage of the latest trade liberalization round - the Uruguay round - in 1994, the World Trade Organization (WTO) was established. The WTO mission is to monitor and enforce the original GATT as well as a set of additional agreements that were negotiated under the Uruguay round. Whereas the original GATT dealt almost exclusively with trade in goods, the WTO also oversees agreements on trade in services (GATS), intellectual property rights (TRIPS), international investments (TRIMS), and trade in textiles and clothing (ATC), among its other responsibilities. For more information about the WTO please go to http://www.wto.org/
Exceptions to GATT Rules
The GATT, as originally written, and as it persists today, contains a number of clauses which represent exceptions to its main guiding principles. For the most part, these exceptions allow certain types of trade policy actions which contradict the main guiding principles of the GATT. These exceptions were, most likely, included in the original GATT because some of the original members, like the US, already had domestic laws which allowed these actions.
The exceptions were written into the GATT as separate clauses or articles, some of which are summarized below.
Article 6 allows GATT members to implement antidumping and countervailing duty legislation.
Antidumping (AD) laws allow a country to raise tariffs on certain products when other countries sell their products at "less than reasonable value" in the importing country, and when the imports cause injury to import-competing firms. Countervailing duty (CVD) laws allow a country to place a countervailing duty (i.e. a tariff on imports) to counter the effects of a foreign government subsidy on an imported product when the imports cause injury to domestic import-competing firms.
Article 19 is often referred to as the "escape clause" or the "safeguards clause." This clause allows countries to raise a tariff, temporarily, when a surge of imports causes injury to import-competing domestic firms.
Finally Article 24 of the GATT allows for the formation of free trade areas and customs unions. The idea, over which there is some controversy, is that movements by a subset of countries to liberalize trade between or among themselves is consistent with the goals of the GATT and thus should be allowed.
1. Note this is one of the early instances in which the US Congress ceded authority for trade policy formation over to the US President.
International Trade Theory and Policy - Chapter 20-3: Last Updated on 6/14/06