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Trade War
President Trump has levied 25 percent tariffs on Mexico and Canada and 10 percent tariffs on China. The Wall Street Journal calls this “the dumbest trade war in history.” I’d used stronger language. So would virtually every international trade economist on the planet.
But you don’t need to be a trained economist to question starting a trade war with our closest ally, Canada, nor our southern neighbor, Mexico, let alone what is now or soon to be the world’s largest economy, namely China.
Let me give you my take on the tariffs and then reprint the views of my co-author, Terry Savage. Her speciality is personal finance, but she has extensive and intensive experience with the actual workings of our economy, particularly financial markets and corporate America.
Retaliation
All three targets of Trump’s tariffs will retaliate. Canada has already announced 25 percent tariffs on American beer, wine and bourbon, produce, OJ, appliances, and sports equipment. Other tariffs will be announced shortly. Canada may also levy duties on exports of lumber and oil. This will further raise construction prices and prices at the pump.
Mexico has its own “Plan B” tariffs lined up to announce this week. As for China, it’s already banned rare mineral exports — minerals that are crucial for producing electronics, semiconductors, infrared, solar cells, ammunition, night vision googles, and nuclear weapons.
Suppose China reacts by banning all exports to the U.S. and threatens the same to any country that continues to trade with the U.S.? Trump, no doubt, will announce the same policy vis a vis China. This will put every foreign country in a very tough position. Chile, for example, exports more than four times as much, in dollar terms, to China than to the U.S.
Making America Poor Some More
This trade war is not going to make American great again again or even make it great again for the first time. It’s going to make America poorer or, at least, most Americans poorer. How much poorer remains to be seen. We will surely see much higher inflation and interest rates this year if not a recession. As for the stock market, the story’s mixed. Reducing foreign competition is a plus for U.S. companies unless, as many do, they import raw materials and intermediate products to produce their final goods and services.
And, no, U.S. tariffs will not lead foreigners to lower the prices at which they sell their products to our country. The U.S.-Canadian exchange rate is little changed from last August and Canadian, Mexican, and Chinese exporters are not dying to sell products to Americans at a lower price than they can receive abroad.
Trump’s Manufacturing Fantasy
President Trump has a fantasy that the U.S. will be a great manufacturing country again. He’s quite the dreamer. There were 13 million manufacturing workers in the U.S. in 1950. There are 13 million manufacturing workers in the U.S. today. There were 47 million U.S. workers back in 1950. Today there are 159 million. Hence, the 1950 manufacturing share of employment was 28 percent. Today, it’s 8 percent. Manufacturing employment neither surged under Trump I nor under Biden. It remained stuck at just below 13 million.
Our Trade Imbalance Is Small and Not the Problem
President Trump also believes foreign countries are ripping us off. We supposedly buy their goods and they refuse to buy ours. The reality is very different. The chart below shows that our trade deficit is just $78 billion. That’s 2.6 percent of our close to $30 trillion GDP.
Hence, our trade deficit is small, but, as the chart shows, its been persistent. Does a trade deficit, by itself, signal a problem?
Absolutely not.
Imagine a world with just one good — corn, which could be consumed or planted. Country A has a very high saving rate and it’s also a great place to plant one’s corn. It’s land, you see, is very fertile. Country A plants everything it saves within its own borders. But country B brings over corn to plant in country A. The corn that B ships over to A to plant is recorded as an import. Hence, country A runs a trade deficit.
How is this a problem? Country A is saving properly and its workers get to work with the capital — the corn — that country B invests in A. This makes them more productive, raising their wages.
But the U.S. is not country A. Our national saving rate is just 3 percent today compared to 13 percent in the 1950s. Why? Because of a persistent and massive postwar policy of taking from young savers and giving to old spenders via a range of on-the-books, but, primarily, off-the-books deficit policies. Read this paper for the details. It shows the profile of average consumption by age rising between 1960 and the mid 1990s. As this New York Times column by Peter Coy indicates, the problem has only worsened since then.
Bottom line Trump is angry at foreigners for investing in the U.S. when Americans aren’t. And Americans aren’t because we’ve been on a 75-year spending spree thanks to our take-as-you-go policy, a.k.a generational expropriation. If Trump wants to fulminate against anyone, he should look in the mirror. His administration dramatically expanded take-as-you-go, accruing massive amounts of additional debt, on, but primarily off-the-books.
And Now for Terry Savage’s Take
Terry’s columns and podcasts are posted at terrysavage.com. I highly recommend everyone subscribe. Like Economics Matters, it’s free.
February 2, 2025
Tariffs 101
Note: When I wrote this column on Friday, two days ago, it was meant as an explainer of the impacts of tariffs. Now it has become a reality check -- tariffs imposed, and retaliation started. The consequences will be far reaching.
Let’s talk about how tariffs work to impact the economy – without any political considerations -- just considering the potential economic consequences of tariffs, and how they impact the trade relationships between countries.
The current headlines revolve around potential tariffs that the United States would charge on goods imported from Canada and Mexico, two countries on our border with whom we already have extensive two-way trade.
What is a Tariff?
Basically, a tariff is a tax at the border on imported goods. Tariffs are already collected by U.S. customs on a variety of imported products. Customs brokers collect the tariffs from the U.S. companies that purchase the goods. That raises the costs of the goods to the ultimate consumer – unless the company absorbs the cost of tariffs, which cuts into their profits and growth and job creation.
So, if a U.S. company imports Canadian lumber or plywood to sell to homebuilders, a 25% tariff would significantly increase the cost of homebuilding in the United States – raising the ultimate price of the home, or remodeling job. These higher prices lead to inflation. If Americans can’t or won’t pay the higher home prices, it leads to a slowdown in homebuilding and remodeling projects, impacting jobs.
Perhaps the homebuilders will turn to U.S. domestic lumber companies for their supplies. But those prices would move higher, as well, since free market prices will rise to nearly match the cost of imported wood. That’s what happened when tariffs were put on imported washers and dryers. Domestic manufacturers increased prices too.
Tariffs are Two-Way Streets
But higher prices on imports are only one side of the tariff story. What happens if the country on which the tariffs are placed decides to “get even” – by putting tariffs on the goods they import from the United States?
In 2023, the United States imported approximately $426 billion from Canada. In the same year, Canada was our largest export market worth $352 billion. They bought $53 billion worth of vehicles from the United States, and $38 billion of machinery and nuclear reactor equipment, and $24 billion worth of agricultural products.
If Canada retaliates with its own tariffs, raising prices on its imports, it will hurt manufacturers in the United States who export to Canada.
Let’s take a simple case. In 2023, Canada imported $262 million worth of distilled spirits such as Kentucky bourbon and Tennessee whiskey from the United States. Suppose, because of retaliatory tariffs, the price of Kentucky bourbon goes up in Canada – and they stop drinking as much. Distillery workers in the U.S. may lose their jobs. The effect ripples through both economies, distorting prices and slowing production and impacting jobs.
Now, consider the situation with Mexico and the impact of a 25% tariff. Notable U.S. imports from Mexico include finished vehicles, auto parts, electronics, appliances, agricultural products – and beer! Last year, the United States imported $6.4 billion worth of beer from Mexico, about 84% of all imported beer. Modelo will become 25% more expensive because of tariffs, unless distributors absorb some of the costs!
We also import 86% of the tomatoes that are not grown in the United States (typically Florida and California, and only seasonally), avocados (think guacamole that you eat with your beer), and plenty of other fresh vegetables. So, tariffs on Mexican imports will raise the price of fresh vegetables in winter for American consumers.
And if Mexico retaliates by putting tariffs on U.S. exports to Mexico? In 2023, the U.S. exported $51 billion of refined petroleum products and natural gas, $45 billion of machinery, nuclear reactors and $51 billion of electronics, as well as $28 billion of cars and parts. As those goods rise in price in Mexico because of a tariff war, there will be less demand. And U.S. manufacturers/exporters will suffer.
Bottom line: It’s not just the initial tariffs that distort markets and raise prices for those who must ultimately pay the higher costs. The tariffs can trigger responses that impact not only the prices of imports but the demand for our exports, which also impacts the American economy and jobs.
The Lessons of History
The world has once before faced a dramatic round of retaliatory tariffs, initially intended to protect domestic economies. The results were disastrous. If you remember the history of the Great Depression in the 1930s, it is widely attributed to the Smoot-Hawley Tariff Act, which turned a financial and banking crisis at home into a global trade war and worldwide depression.
This time around, the consequences of tariffs could be strategic as well as economic. The United States gets 60% of its crude oil imports from Canada – despite the fact that the U.S. is now the world’s largest oil producer – because the majority of U.S refineries need Canada’s heavier form of crude oil to turn into gasoline. If Canada retaliates with tariffs on oil sent to the U.S. (or auto parts, or lumber, or countless other products), it could significantly impact our domestic gasoline prices at the pump, housing prices, and auto prices – all hitting consumers and causing inflation.
Economists on both sides of the political spectrum are arguing against the temptation to believe that tariffs punish our trading partners. In the end, they only wind up hurting Americans. And that’s The Savage Truth.
Related: The Case for 30-Year TIPS: Why They’re More Attractive Than Ever