As tariffs bite, get ready for a 1970s-style supply shock
Market turmoil over mounting U.S. tariffs on China and the threat of the same on Mexico in large part stems from a fear of the unknown: No one knows what a major trade war would do, as the U.S. hasn’t been in one since the 1930s.
There is, however, a more recent analog: the 1973 Arab oil embargo. Both that embargo and the new tariff barriers represent a supply shock in which a reliable supply of cheap imports—oil then, manufactured goods now—is suddenly curtailed. Prices paid by American consumers and businesses go up, hitting confidence and purchasing power.
The 1973 embargo tripled the price of oil and plunged the U.S. into what was then its worst recession since the 1930s. The circumstances, of course, were different and a similarly severe slump today looks unlikely. Nonetheless, the oil shock provides a useful road map for the present. Perhaps most important: Even after the short-term pain passes, permanently more expensive inputs require costly adjustments to supply chains and business models, weighing on growth for years to come.
In 1973, after Egypt and Syria attacked Israel, the U.S. rushed arms and aid to the Jewish state. In retaliation, Arab oil exporters cut production and suspended exports to the U.S. American business and consumers, long used to plentiful oil for less than $4 per barrel, were utterly unprepared when it rose above $11. The country’s bill for imported oil and related products shot to $132 billion in today’s dollars in 1974 from $28 billion in 1972—a de facto tax increase equal to about 1.5% of gross domestic product. The Federal Reserve initially cut rates, then raised them sharply as oil sent inflation into double digits. Governments compounded the chaos with rationing and price controls, which led to long lines at gas stations.
The recession ended in 1975, but the reverberations lasted for years. Countless companies and workers found their factories, products and skills—developed for a world of cheap oil—no longer useful. American auto manufacturers never mastered the switch from big to small cars. Productivity growth slowed sharply after 1973 and economists believe the oil shock was a major reason why.
The U.S. until recently was as reliant on cheap manufactured products from China as it was in the 1970s on cheap oil from the Middle East. But just as the U.S. came to regret its dependence on Arab oil, many now want the U.S. to disentangle its economy from China’s as tensions have risen over its trade and technology policies and geostrategic rivalry.
https://www.msn.com/en-us/money/markets/as-tariffs-bite-get-ready-for-a-1970s-style-supply-shock/ar-AACqHz8?li=BBnbfcL
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