Deconstructing the Consequences of “Buy American”

Machiavelli’s Cat has a fun post that plainly points out the macroeconomic consequences of protectionism, following on the heels of the “Buy American” provisions that were added to President Barack Obama’s $820 billion stimulus package.

In sum, the stimulus package is focused on infrastructure projects, which means a coming demand for steel and iron. But the stimulus “Buy American” provisions ban the purchase of foreign steel. So US companies get an advantage but not selling in a competitive market—but what does that mean?

For many economists, this means that those companies will become structurally uncompetitive, as they won’t have to undergo the same rigorous competition as others. When the US eventually opens its market again (as it most likely will), those companies will be seriously disadvantaged, even if they’ve survived in the short-to-medium term, something many other companies will not have. (US infrastructure projects may also become more expensive, since the projects won’t be paying competitive, market-rates for their raw goods.)

In terms of international prices for steel and iron, we can expect them to decrease, making other countries’ infrastructure projects more affordable. While many companies will suffer because of the lack access to the US market, many will survive. These companies will be efficient, having weathered a very tough time, and very competitive.

In the long run, preferential treatment to US companies will create inefficiencies in the system, and delay the US’ transition to the new economy.

Two of America’s strongest allies, Japan and Australia, have issued a warning to Washington that this could lead to a retaliatory trade war. And on top of both the macroeconomic risk outlined above, and the damage to relations with important allies, need I also remind you that this is how the Great Depression got started? The Smoot-Hawley Tarrif Act, passed 8 months after the Stock Market Crash, was vigorously opposed by more than a thousand economists, Henry Ford, and the chiefe executive of J.P. Morgan. More than 30 countries lodged formal protests with the Department of State. Is history repeating itself? I hope not, but have fears for the worst.