How Tariffs Encourage Waste

Every semester I teach economic principles, which includes introducing college students to the fundamentals of international trade, such as tariffs and other trade policies. I try to apply our material to current events.

Do I have examples to choose from this semester! So many backward policies, so little time.

My students tend to understand the broader implications of tariffs. As people have likely heard by now, tariffs increase the price of goods for consumers and harm domestic businesses that rely on imports.

There are other costs from tariffs as well. I’ve written elsewhere about “regime uncertainty” and how the current administration’s policies are creating so much policy ambiguity that they likely stifle entrepreneurial activity.

Businesses will also seek to avoid the tariffs, which will waste resources that could have been used more productively. We can expect to see much more time and effort going toward “tariff engineering,” the modifying of products to change their tariff classification and lower the duties.

Tariff engineering is nearly as old as tariffs. In the 1800s, for example, the United States charged higher tariffs on refined white sugar than on unrefined brown sugar. To lower his rate, one importer added molasses to his refined sugar. The ensuing legal case ended in a win for the importer since the tariff rates were based solely on color. Similarly, in 1912 the Supreme Court ruled in favor of an American who mailed pearls home to his wife from Europe. Why? The United States had higher duties on strung pearls than on unstrung pearls, so the clever man took the pearls off their string.

Tariff engineering continues today. Nike’s Converse sneakers have felt on the soles. Why? Slippers have lower tariff rates than sneakers. The makers of the “Snuggie,” the as-seen-on-TV juggernaut, fought in court to have their product classified as a blanket instead of a sweater. Columbia Sportswear—which could teach a master class on tariff engineering—added pockets, changed the location of zippers, and made other alterations to their products to lower the import costs.

It’s not just clothes. Why do some cars have cloth seats instead of leather seats? Tariff engineering. Why have alcohol producers decreased the alcohol by volume in their products to seemingly odd percentages like 14.9 or 12.3? Tariff engineering. Why did U.S. dairy companies start exporting “pizza kits” to Canada with an oddly large amount of cheese? You guessed it: tariff engineering.

Trump’s latest tariffs apply to all goods from particular countries, so that type of tariff engineering won’t happen as much. But because the tax rates are different for different countries, entrepreneurs will find ways to move their supply chains through countries with lower rates and away from those with higher ones.

These examples and countless others highlight human creativity and entrepreneurial alertness. When faced with restrictive policies, people find ways to innovate around said restrictions.

That doesn’t mean it’s good. Some might lament that these practices lower the U.S. government’s ability to raise revenue. But tariffs are not a major source of revenue, even if collected in full.

There’s an even larger cost. What could these creative people be doing instead? Economics teaches us that for every action there is an “opportunity cost,” an alternative action we must forgo. If someone at Columbia Sportswear spends days redesigning a sweater to avoid new or higher tariffs, that person spends less time creating new products or improving existing products.

Entrepreneurial changes such as tariff engineering, which economist Israel Kirzner called “superfluous discovery,” are a major consequence of government intervention. Government interference with markets changes the relative benefits and costs of different economic activities. Activities that wouldn’t otherwise be pursued are undertaken, and activities that would have been pursued are left on the shelf.

Costs like these are difficult, perhaps impossible, to measure, but that does not mean they are unimportant. Some have suggested that human ingenuity is the ultimate natural resource. In considering human creativity and the role it plays in improving the human condition, it’s critical to understand how different institutional environments change our behavior. Tariffs channel our energies into avoiding taxes rather than into making things people want.