Stephen Miran on Tariffs and National Savings
In a speech earlier this week, Stephen Miran, who had been the Chair of the Council of Economic Advisers and is now a member of the Federal Reserve Board, made his case for a looser monetary policy. One aspect of his argument was that he thinks national savings will be increasing soon, in part to due to the Trump administration's tariffs and trade policy:
Increases in national saving from trade policy
Additionally, trade renegotiation and the tax legislation recently passed by the Congress should also affect r* [the neutral rate of interest]. I think of this primarily through the increase in national saving—that is, the net supply of loanable funds.
With respect to tariffs, relatively small changes in some goods prices have led to what I view as unreasonable levels of concern. While my read of the elasticities and incidence theory is that exporting nations will have to lower their selling prices, I also believe tariffs will lead to substantial swings in net national saving.
The Congressional Budget Office estimates tariff revenue could reduce the federal budget deficit by over $380 billion per year over the coming decade.10 This is a significant swing in the supply–demand balance for loanable funds, as national borrowing declines by a comparable amount. A 1 percentage point change in the deficit-to-GDP (gross domestic product) ratio moves r* by nearly four tenths of a percentage point, according to the average of estimates summarized by Rachel and Summers.11 This 1.3 percent of GDP change in national saving reduces the neutral rate by half a percentage point.12
Tariffs are not the only means by which trade policy is affecting the supply of loanable funds. Loans and loan guarantees pledged by East Asian countries in exchange for relatively low tariff ceilings have reached $900 billion.13 These guarantees entail an exogenous increase in credit supply, which research suggests would be around 7 percent.14 Using Council of Economic Advisers' (CEA) estimates of the interest elasticity of investment and Michael Boskin's interest elasticity of saving, this would further reduce neutral policy rates by around two tenths of a percentage point.15
I have a few comments on all this.
First, Miran says that in reaction to the Trump administration's new tariffs, "exporting nations will have to lower their selling prices." I take his point here to be that, because foreign companies will choose to absorb a good deal of the costs of tariffs, we don't need to worry too much that these tariffs will lead to higher prices for U.S. consumers, and thus a looser monetary policy is justified.
In response, I would say that it's certainly possible that some foreign companies will lower their selling prices in the U.S. because of the higher tariffs, in order to avoid having consumers feel the price increases and possibly shift their purchases to competitors. But if I were the Trump administration, I would be worried that this reaction by foreign companies will lead to an economic downturn in foreign economies, as the profits of their exporters are reduced. That won't be good for the U.S. economy for a number of reasons, including the fact that U.S. companies want to sell in those markets. (Of course, if the global economy does experience a downturn, there would then be a good case for looser monetary policy, but I don't think that's the way anyone wants to get to this policy).
Miran's broader point here though is about tariffs and savings: "I also believe tariffs will lead to substantial swings in net national saving." In this regard, he talks about how increased tariff revenue of "$380 billion per year over the coming decade" will reduce the federal budget deficit, with national borrowing declining as a direct result.
It is certainly true that, looked at on its own, raising taxes in this way will reduce borrowing, at least in the short term. On the other hand, we should keep in mind two things.
First, the new tariffs are not taking place in a policy vacuum. If the increased tariff revenues are offset by lower income tax revenues and increased spending on the military and immigration enforcement, as it seems like will be the case through the OBBB, the federal budget deficit could go up rather than down and national borrowing could actually increase. At the least, it could all be a wash, and borrowing could stay about the same.
And second, if tariffs slow economic growth, that could reduce income tax revenues in the medium to long term. I know that the Trump administration is hoping for more domestic manufacturing as a result of the tariffs, leading to more economic activity and tax revenues, but even if that does happen at some point, it could take a while to get going.
As additional support for the idea that federal borrowing will be coming down, Miran also mentions "[l]oans and loan guarantees pledged by East Asian countries in exchange for relatively low tariff ceilings have reached $900 billion." At this point in time, I'm not sure what to make of the investment commitments from Japan and others. We've talked about the Japan commitments on the blog a bit already. How much of this promised investment is actually going to come to fruition? Miran is focused on the loans and loan guarantee, rather than direct investment, but here I have the same question: What is the level of loans and loan guarantees we are likely to see in practice? If foreign companies have to lower prices on sales to the U.S. (see my first point above), and that hurts foreign economies, how much money will these countries have available to provide loans and loan guarantees to investments in the U.S.?
The Trump administration's economic policy team has a grand theory about how all of the various economic moves they are making will come together and lead to outcomes such as: more investment in the U.S., a manufacturing boom, a lower trade deficit, a reduced federal budget deficit, low interest rates, and low inflation. I'm skeptical that all of this will happen, but it seems as though there is little to stand in the way of their efforts at the moment – although the Supreme Court's IEEPA tariff ruling could be a hurdle for them to overcome – and we'll find out soon enough how it turned out.