Trump’s Tariff Economics — What lies beneath?

Introduction

Thirty-four years ago, I was enrolled in a master’s degree in economics, and found myself comfortably numb, and of course leaning to the left as any wannabe intellectual — quoting Marx and then something happened…

On 24th July 1991, the finance minister — Dr. Manmohan Singh (who later became a brilliant prime minister of India if not the best) unleashed a revolution — an irrevocable commitment to liberalization and reform charter that came as a bolt from the blue. Liberalization in 1991 was all about dramatic new stances of the government with huge repercussions — and it meant the following

a) Abolishing the License Raj: Removed licensing restrictions for most industries, and as you would know — Licence is a non-tariff trade barrier that had been a favourite to protect certain business houses — who refused to wake up and smell the coffee.

b) Encouraging foreign investment: Allowed foreign companies to invest up to 51% in Indian companies

c) Dismantling public monopolies: Limited public sector growth to certain areas — a dramatic shift from the Nehruvian era that celebrated PSUs as the engines of modern India

d) Reducing tariffs: Lowered tariffs to encourage trade even though many in the private sector expressed terror that they were not ready to compete with global firms

e) Reducing interest rates: Reduced interest rates to encourage economic growth — he also reduced import duties on gold and gold smuggling took a big hit — for a change Hindi movies did not show the protagonists using torches as signals to smuggle in gold on western beaches.

f) Liberalizing trade: Removed restrictions on imports of agricultural products — this was another dramatic shift.

On a personal front, it was in this year and in the middle of my MA, I decided to move away from economics and prepared to join the best business school in the country — I joined IIM Ahmedabad in 1992.

The NOW!

Making Sense of President Trump’s Tariffs and consequent Chaos

While capitalism has flourished in India in the past two decades and more, it is the Trumpian take on tariffs, trade, protectionism et al in the past 7 weeks plus that has me dusting my old books and journals on economics and trying to understand what the most powerful President in the world is up to. I daresay — I have no idea — none at all!

It is difficult to understand what Donald Trump is up to as he unleashes tariff stances on his neighboring nations — friendly nations that have supported capitalism in the continent by investing into complex supply chains on most fronts including energy, steel, aluminum, automobiles, consumer goods, wood, food products, and even whiskey.

Who would have imagined that Trump has been very seriously stating that Canada needs to be colonized as the 51st state in the modern era apart from his eye on Greenland. Is this bluster? Does it make economic sense? Is there money and wealth to be made? As an outsider, one can only make assumptions on Trump’s assumptions on how the tariff war will pan out.

Part 1

What do Tariffs mean?

Let’s revisit the basics. Tariffs are a type of protectionist trade barrier that can come in several forms where taxes or duties levied on importers, and they’re eventually passed on to consumers.

On the short term, the government (US government) collects these taxes and duties — the original department was Customs and Border Protection (CBP) within the Department of Homeland Security as per the Harmonised Tariff Schedule (HTS) that is defined and created by US International Trade Commission (USITC).

In FY 2023–24, CBP collected USD 80 Billion in tariffs and as the table shows — this is a mere 1.8% of Receipts of US Government!

From 2015 to 2020, duties paid on U.S. imports doubled, from approximately $37 billion to $74 billion.

Impact of Tariffs

Tariffs are paid by domestic consumers and not the exporting country, but they have the effect of raising the relative prices of imported products.

Economists and democrats have been shouting themselves hoarse that it is the consumers that suffer — but neither Trump’s staff nor media like FOX seems to be acknowledging this grain of truth.

The objective is to make foreign products relatively more expensive for consumers, but if domestic manufacturers rely on imported components or other inputs in their production process, they will also pass the increased cost on to consumers.

It is true that a large part of core manufacturing has moved out of USA in the last three decades — this is not as a result of Obama or Bidenomics, but this shift has largely been driven by Capitalism itself. Shareholder greed which is seen as a key value for market capitalism has meant shifting manufacturing capabilities in countries with cheaper source of capital and cheaper labor.

If President Trump wanted to rekindle manufacturing in USA as a part of his MAGA campaign, he could have explored many other choices other than TARIFF. With the objective of protecting local manufacturing, he could have creatively used other strategies including quotas, licenses, and standardization, all seeking to make foreign goods more expensive or available in a limited supply.

But he has till date (March 12th 2025) been adamant and stuck on raising Tariffs.

Part 2

Is History Repeating itself?

The SMOOT-HAWLEY Tariff ACT of 1930

On the face of it, 95 years ago we had two Republicans coming in with vengeance when it came to tariffs.

A quick summary of American Tariff Policies has been summarised in the table below. You would notice that in 1930, the Tariff Act also known as Smoot Hawley Tariff raised US tariffs to the highest level since 1828. The high tariffs led to a severe decline in international trade, as countries retaliated with their own tariffs, making it difficult for the US to export goods.

Many economists believe the Smoot-Hawley tariff contributed significantly to the severity and duration of the Great Depression by hindering global economic recovery.

The act faced significant criticism both in the US and internationally for its protectionist nature and the damage it caused to global trade.

The Smoot-Hawley tariff was criticized for exacerbating the Great Depression by hindering international trade and sparking retaliatory tariffs from other countries.

The Tariff Act of 1930 increased import duties by an average of 20 percent, and in some cases by as much as 50 percent, on over 20,000 imported goods. It was designed to shield U.S. industries and farmers from foreign competition, but instead, it had a detrimental effect on international trade and exacerbated the Great Depression. It was sponsored by Senator Reed Smoot of Utah and Representative Willis Hawley of Oregon, and signed into law by President Herbert Hoover

In May 1930, Canada, the most loyal trading partner for the U.S., retaliated by imposing new tariffs on 16 products that accounted altogether for approximately 30% of U.S. exports to Canada. Later, Canada also forged closer economic links with the British Empire via the British Empire Economic Conference of 1932.

France and Britain protested and developed new trade partners. Germany developed a system of trade via clearing. Nations other than Canada that enacted retaliatory tariffs included Cuba, Mexico, France, Italy, Spain, Argentina, Australia, New Zealand, and Switzerland

The depression worsened for workers and farmers despite Smoot and Hawley’s promises of prosperity from high tariffs; consequently, Hawley lost re-nomination, while Smoot was one of 12 Republican Senators who lost their seats in the 1932 elections, with the swing being the largest in Senate history (being equaled in 1958 and 1980).

Perhaps, we are witnessing history repeating itself but there are significant differences

1. As per Wikipedia, one big difference was that by the late 1920s, the U.S. economy had made exceptional gains in productivity because of electrification, which was a critical factor in mass production.

2. Another contributing factor to economic growth was replacing horses and mules with motorcars, trucks, and tractors. This meant that the ‘One-sixth to one-quarter of farmland’ that had been devoted to feeding horses and mules, was freed up, contributing to a surplus in farm produce. Although nominal and real wages had increased, the wages did not keep up with the productivity gains. One of Herbert Hoover’s campaign promises was to help beleaguered farmers by increasing tariffs on agricultural products. Hoover won, and Republicans maintained comfortable majorities

3. Thirdly the United States had been running a trade account surplus, and although manufactured goods imports were rising, manufactured exports were rising even faster. Food exports had been falling and were in a trade account deficit, but the approximate values of food imports only amounted to half the value of exports.

The END of TARIFF Wars in the last century

The 1932 Democratic campaign platform pledged to lower tariffs. After winning the election, President Roosevelt and the now-Democratic Congress passed RECIPROCAL Trade Agreements ACT of 1934. This act allowed the president to negotiate tariff reductions on a bilateral basis and treated such a tariff agreement as regular legislation, requiring only a majority, rather than as a treaty requiring a two-thirds vote.

This was one of the core components of the trade negotiating framework that developed after World War II. After World War II, that understanding supported a push toward multilateral trading agreements that would prevent similar situations in the future. President Truman at the end of WWII launched this process in November 1945 with negotiations for the creation of a proposed International Trade Organization (ITO).

As it happened, separate negotiations on the General Agreement on Tariffs and Trade (GATT) moved more quickly, with an agreement signed in October 1947;

GATT served as a framework for the gradual reduction of tariffs over the subsequent half century. Postwar changes to the Smoot–Hawley tariffs reflected a general tendency of the United States to reduce its tariff levels unilaterally while its trading partners retained their high levels.

The American Tariff League Study of 1951 compared the free and dutiable tariff rates of 43 countries. It found that only seven nations had a lower tariff level than the United States (5.1%), and eleven nations had free and dutiable tariff rates higher than the Smoot–Hawley peak of 19.8%, including the United Kingdom (25.6%).

The 43-country average was 14.4%, which was 0.9% higher than the U.S. level of 1929, demonstrating that few nations were reciprocating in reducing their levels as the United States reduced its own

Part 3

What is Donald Trump betting on?

Most economists if not all are aligned with the following statements:

Jospeh Stiglitz an economics professor at Columbia University and a winner of the Nobel prize in economic sciences, says: Virtually all economists think that the impact of the tariffs will be very bad for America and for the world. They will almost surely be inflationary.

Marcus Noland, executive vice-president of the Peterson Institute for International Economics, says: The impact of imposing these tariffs … [will] have the effect of depressing US economic growth, contributing to a higher rate of inflation, and those effects will be worse if the other countries retaliate in kind.

But President Trump as on date remains adamant. There could be only some of these bets that make remain adamant:

a) The Make American Industry Great Again

There is no doubt that Trump and the Republican party wish to wind back the clock and make USA the center of the manufacturing and agriculture universe. He has won a significant mandate from farmers, industrial workers, as well as business owners.

However, manufacturing 4.0 or industry 4.0 that the rest of the world is betting on wishes to integrate advanced technologies including smart, interconnected, and data driven plants and supply chains. The nature of inter-connects would mean not just creating smart factories that connect skilled labor with machines but also circular economies that leverage global eco-systems.

By wanting to encourage investment in USA and yet insulating the very nature of ecosystem strategies from the rest of the world does not seem to make sense. It also does not mean that protected industry or agriculture would be both innovative and efficient.

If manufacturing jobs need to go up — so is the dire need to re-skill and re-train industrial labor in USA — something that Trump and his staff are not wanting to talk about.

b) TARIFFS as a way of coercive negotiations and a macroeconomic tool …

The second bet seems to be using Tariffs as a negotiating tool — The TRUMP administration sees tariffs as a way to put pressure on trade partners such as Canada, Mexico, China etc. during negotiations, as well as a potential bargaining chip.

However the initial reactions of these countries has been to call the bluff and reject such coercive mandates. The globalised world offers each of these countries to re-set their supply chains with opportunistic nations.

I would agree with many observers that we are walking the edge of a global recession if tariffs were erected by large nations.

c) TARIFFS bring in ‘astronomical revenues’ that would make America rich again …

In his joint address to Congress last week Trump states — “We will take in trillions and trillions of dollars and create jobs like we have never seen before — Tariffs are about making America rich again and making America great again.”

Given that Tariffs account for USD 80 Billion today (1.8% of total receipts), the Committee for a Responsible Federal Budget estimates that the new tariffs would bring in only USD 120 billion a year or USD 1.3 trillion over the next ten years.

The projections of astronomical revenues does not look very feasible and neither does Trump’s rhetoric that “We’re going to become so rich you’re not going to know where to spend all that money,”

d) TARIFFS offer the salve of ‘Fairness’ — USA has been exploited for decades by every country on the Earth and it is time and only fair that the Victim seeks its pound of flesh.

Restoring fairness has been another claim that President Trump makes — it is an emotion rich narrative that claims that reciprocal tariffs would restore fairness. His press secretary speaks of a 150% tariff on American Bourbon by India and then passionately asks — “is this fair?” I am sure that bourbon manufacturers would even agree with this plaintive claim.

But this narrative of USA being the victim and that raising tariffs would solve all problems including restoring American manufacturing — does not seem to hold true … most economists would agree that trade gaps are not equivalent to losses.

e) The EXTERNAL REVENUE Service — a messiah for the poor and the meek at home

President Trump is betting on creating the ERS (External Revenue Service) that will eventually replace IRS (Internal Revenue Service) and there would come a time when US citizens would not have to pay taxes!

The current numbers don’t seem to hold out.

IRS brings in USD 3 trillion a year — Tariffs bring in USD 80 billion a year. This is not going to happen anytime soon for the total tariffs need to be 40 times of what they are currently.

It is unbelievable that President Trump and his staff are peddling this fairy tale / narrative and even more unbelievable that 30% of Americans believe in it.

Conclusion

Apart from succumbing to conspiracy theories that emphasize on President Trump being a Russian agent or accusations that Donald Trump is plain stupid, the abovementioned bets are the sum and substance of Trump’s rampant insistence that Tariffs are the solution. There are references to President McKinley and the golden era.

But traditional macroeconomics do not support his bets — Unless new economics get written about in a year or two

I would love to hear your thoughts