President Trump presented his tariff plan on Wednesday afternoon at a Rose Garden ceremony. Here is a summary of the plan:
- All countries will face a minimum tariff on all imports to the US of 10 percent.
- Countries with which the US has a goods trade deficit will face an additional “reciprocal” tariff. This tariff rate appears to be computed by taking half of the ratio of the dollar values of the goods trade deficit to exports. This method implies that the entirety of the goods trade deficit comes from tariff and/or non-tariff barriers that other countries have imposed on US exports.
- Foreign-made light vehicles (autos, SUVs, light trucks, etc.) will be subject to a 25 percent tariff, with a tariff on parts to come shortly.
- Mexico and Canada will continue to face 25 percent tariffs (based on the assumption that they have not done enough to curb fentanyl and illegal immigration).
- Products that are part of the USMCA are exempt from the new tariffs.
These tariffs may change – moving higher if other countries retaliate in response to the tariffs or moving lower through successful negotiations. As a result, there is still a lot of uncertainty with regard to what ultimate tariff rates will be. As of now, however, it is estimated that the weighted-average tariff rate has jumped to around 28 percent. At their peak, the infamous Smoot-Hawley tariffs that worsened and extended the Great Depression were around 20 percent.
Given the still uncertain path for tariff rates going forward, depending in part on how other countries respond, it is difficult to determine what the impact of the tariffs will be. But in general, tariffs are a tax on goods coming into the US from abroad. Firms can pass along the tariffs to consumers, reduce their profit margins, or (more likely) choose some combination of the two. As a result, import prices will likely increase, particularly in industries with smaller profit margins. In the near term this means that measured inflation will increase. Whether or not those near-price changes will cause longer-term inflation depends upon whether the Federal Reserve eases monetary policy in response to likely slower growth and/or the near-term price hikes increase inflation expectations, changing wage/price-setting behavior. Economic activity is also likely to slow, as the tariffs act similarly to a large tax hike on consumers (and businesses). Enough to cause a recession? That is still unclear, but recession odds have certainly increased significantly as a result of the tariff actions. The combination of higher prices and slower growth is a negative supply shock, similar to the jump in oil prices following the Arab oil embargo in 1973. That oil-price shock caused a decade of stagflation. This time the supply shock is self-induced.
There are certainly unfair trading practices from other countries that make the trade deficit larger than it otherwise would be (the US has some of those practices, too). And it is also the case that some workers in the US have lost their jobs because of imports (and, unfortunately, the US was not good at supporting those displaced from their jobs). Even so, the primary reason that the US has large and ongoing trade deficits is that there is a shortage of domestic saving relative to investment. This imbalance necessitates a capital inflow from abroad – a capital account surplus that mirrors the trade deficit. Without this, interest rates would have to rise in the US (probably significantly). But make no mistake, the most direct and least costly way to reduce the trade deficit is to increase domestic saving through reducing the federal budget deficit. And even with trade deficits and some workers losing their jobs as a result, the vast majority of households in the US are better off today because of trade.
Even if the tariffs work as the Trump Administration hopes they will, with new US factories, the resulting rise in manufacturing employment is likely to be modest. Industrial production for manufacturing industries in the US remains near record levels today, despite trade; but manufacturing employment has been trending lower since the late 1970s. It is mostly increases in productivity, not trade, that have resulted in less demand for manufacturing workers.
President Trump is correct that the US often faces trade barriers. But the costs of rising tariffs are likely to far exceed the benefits, especially if other countries retaliate by increasing their tariffs on US exports. Working to lower tariff and non-tariff barriers worldwide through trade negotiations and free-trade agreements is a far better way to achieve trade fairness, while allowing faster domestic growth.
David W. Berson, Ph.D., CBE
Chief US Economist
Email | Bio
Links to other websites or electronic media controlled or offered by Third-Parties (non-affiliates of Cumberland Advisors) are provided only as a reference and courtesy to our users. Cumberland Advisors has no control over such websites, does not recommend or endorse any opinions, ideas, products, information, or content of such sites, and makes no warranties as to the accuracy, completeness, reliability or suitability of their content. Cumberland Advisors hereby disclaims liability for any information, materials, products or services posted or offered at any of the Third-Party websites. The Third-Party may have a privacy and/or security policy different from that of Cumberland Advisors. Therefore, please refer to the specific privacy and security policies of the Third-Party when accessing their websites.
Sign up for our FREE Cumberland Market Commentaries
Cumberland Advisors Market Commentaries offer insights and analysis on upcoming, important economic issues that potentially impact global financial markets. Our team shares their thinking on global economic developments, market news and other factors that often influence investment opportunities and strategies.
