The Tariff-ying Times We Live In
“There are decades where nothing happens; and there are weeks where decades happen.”
-Vladimir Lenin...maybe.
It’s been a few weeks since the announcement of tariffs heard around the world. If you haven’t heard about it, you’ve probably been living under a rock. Or maybe you’re from the Heard and McDonalds Islands with only Penguins for neighbors. In which case the administration has said you’re still subject to a 10% tariff on whatever you export to the US!
Regardless, the announcement by the Trump administration of sweeping tariffs is causing reverberating affects across the global financial system. Stock markets are tanking, business plans are being scrapped, and governments all over the world are scrambling to address the new trade demands from their largest customer. Complicating things further, there are questions around whether these tariffs will be permanent, or if they are part of an elaborate “4D Chess” plan that Trump and his advisors have hatched. The truth is that the reasons don’t really matter. The tariffs have very real consequences (which I will explain below), but they are not the reason we live in tariff-ying times.
Tariffs: what are they?
First, let’s define “trade”. Trade occurs when two parties voluntarily exchange goods or services. Seems simple enough, right? But in this definition lies an important implication often lost in a maze of political and economic rhetoric. Voluntary trade only occurs when both parties benefit. The things exchanged are not equal. No, both parties value what they are receiving more than what they are giving. Otherwise, the two parties would not have traded with each other. Trade is not an equal exchange. It, in fact, benefits both parties!
Secondly, let’s define “tariffs”. Tariffs are a charge domestic governments levy on their own importers. They are a government imposition on that mutually beneficial relationship. Cut through all the politics and self-interest from various domestic producers, and this is the cold, hard reality. Who eventually pays the tariff depends on a variety of factors. But make no mistake, tariffs are an artificial cost imposed upon a voluntary (i.e., mutually beneficial) trade system.
Tariffs: who benefits?
But who benefits from tariffs? Well, for one, the entity collecting the tax. Assuming trade volumes were consistent, 50-250% tariffs would bring in a pretty penny in tax revenue. Unfortunately, unlike the US government, the rest of the world doesn’t have “magic money machines” and therefore can’t conjure extra dollars on the spot (well, at least not officially). So, trade volumes typically fall as tariffs are levied, resulting in less consumer options and less revenue than the government expected.
Does anyone else benefit? Purportedly, domestic producers benefit when their foreign counterparts are forced to absorb massive tax increases passed on to them by their domestic distributors. This would (theoretically, and only theoretically) drive more business to domestic producers, increasing revenue and leading to more jobs. This, however, is only true in a ‘nominal’ sense. Higher revenues and more jobs that are less productive and efficient only benefit some domestic actors at the expense of others.
Besides, this is a very short-sighted benefit. Consumers are punished when they are denied a similar product at a lower price. If domestic consumers are punished with higher costs and less variety, domestic producers will be also. And to add insult to injury, domestic producers typically become less efficient and profitable when they use the power of government to punish their competitors. Where is their incentive to innovate when their profits are protected by their favorite bureaucrat?
Does the economy benefit? Anyone? Anyone? For a riveting dialogue around the benefits of the last tariff mania, let’s go back to high school econ.
https://www.youtube.com/watch?v=AyyAh2lQXF8
If only the current administration had Ferris Bueller’s economics teacher!
Tariffs: taxes or tribute?
In bygone eras when our country was a constitutional republic, we had checks and balances between various branches of government. One of those benefits of the divided powers was that Congress was the only branch with the power to tax.
In other words, the executive or judicial branches could not levy taxes on Americans because, as you may recall, we originally didn’t like the idea of taxation without representation. In fact they were so against the idea that they launched a revolution over a…*checks notes *…about a 2% tax on tea. Nowadays we throw around 50-250% tax rates like they’re going out of style. Yet this tariff policy is quite popular among the (formerly) free trade party. As my teenage son would say, “bruuuhhhh”.
But some suggest these aren’t taxes, but rather a form of tribute. Does that make it better? In short, no. If the US levies a 100% tariff on Chinese auto parts, the local distributor of car parts in California must pay the US government a 100% fee to import the part, essentially doubling the cost of the part. These businesses then have a choice to make. Either they pass that cost on to their costumers (making the tariff – in essence – a tax on the American consumer), or they offer to pay the Chinese exporter less for the part to keep their business (shifting the cost on to the Chinese exporter). Or, potentially, a combination of the two occurs.
But here is where things get a bit interesting. If the cost of the tariffs is passed along to the foreign exporter (in this case, the Chinese producer of auto parts), then is this still a tax on US businesses and their customers? Technically yes, but practically, no. The US consumer sees no price hike. The Chinese exporter, however, sees their revenues decline by 100%. Hardly a realistic result.
But what if the US consumer is so important to the exporting nation’s revenues that they have no one else to sell to if not the US? Well, then, the “privilege” of doing business in the US comes at the cost of lowering their prices and absorbing the cost of the tariff. The tariff becomes a sort of tribute for doing business with the largest consumer base in the world.
This is very likely to be the case for many nations around the world dealing with these new Trump tariff rates, at least to some extent. The costs may be partially shared with US importers or consumers, but the vast majority of this cost will be borne by the poorer countries manufacturing goods that they themselves can’t afford to buy, and thus they must continue to export them (at a loss or very little profit) to the US.
Trump’s 4D Chess
Some supporters of the current tariff policy suggest that Trump is playing some elaborate 4D chess game. By lobbing an economic grenade into the center of the global financial system, Trump is forcing every country to into a weak negotiating position which will inevitably lead to more favorable trade terms for the United States. Recent comments by Trump’s Treasury Secretary, Scott Bessent, seem to indicate that there is no desire to keep these tariff rates if other country’s begin negotiating trade deals “in good faith”. If that is true, then perhaps the other side of these “tariff negotiations” see an increase in free trade. A welcome result, indeed.
In addition, Stephen Miran, who seems to be very influential in Trump’s cabinet, has put forth relatively complex economic strategies that involve tariffs, tax cuts, and deregulation as a strategy for bringing American manufacturing back home. While two legs of that stool seem quite beneficial, tariffs remain problematic. Furthermore, a return of manufacturing to the United States is a dubious goal considering that US manufacturing output remains near all-time highs.
But what about National Security?
One argument for these aggressive trade negotiations is that without a larger share of our economy being rooted in manufacturing, we are susceptible to foreign powers (namely, China) weaponizing their manufacturing dominance against us. This would leave us unable to produce weapons, medicine, etc. in the event of a conflict.
I can sympathize with this concern. But this is like amputating your head to fix a sinus infection. It’ll work, but at what expense? To reshore manufacturing would come at an enormous cost. There is a reason companies went to China in the first place: cheap labor and a friendly business environment (at least for American companies – we won’t discuss what it’s like for Chinese “owned” companies). Neither of these benefits exist currently in the US, at least not nearly to the same extent. Reshoring manufacturing would increase the prices of goods far beyond what the US consumer could handle, thus leading to a recession and/or depression, even if some manufacturing jobs returned in the process.
Secondly, declining trade relationships actually create national security issues. When countries trade with each other, they have incentives to make each other happy because, as we discussed at the beginning, voluntary trade is mutually beneficial. These beneficial relationships make peace increasingly profitable, and war exponentially more costly. When trade diminishes, however, peace becomes less profitable and the benefit of war increases. In essence, raising trade barriers is itself a threat to national security
"Either goods will cross borders, or soldiers will." – Frederic Bastiat
4D Chess or not, these policy decisions are playing a dangerous game, both economically and militarily. Let’s hope those who are playing know the difference between Chess and Risk.
The Real Risks to the Economy
Having said all the above, I fully expect that trade deals will be announced, or the current tariff policy will be radically minimized amidst a deteriorating economic backdrop. And as a result, all the recent turmoil in financial markets will enter a relative calm as the tariff issues fade into the background. Political “convictions” have a way of changing based on the underlying economic fundamentals, and the current economic realities are quite abysmal.
Shortly before and after Trump was elected last year, there was an artificial high in manufacturing and import orders due to the threat of tariffs by Trump on the campaign trail. This had the effect of increasing prices for durable goods and various commodities utilized in the production structure. It also boosted GDP (the most popular measure of economic growth) through the end of the year. There was also incredible enthusiasm surrounding Trump and his administration’s goals of cutting government spending and taxes while deregulating industry.
However, 3 months into the administration and these lofty goals seem to be further away. The government is running higher deficits, tax cuts are nowhere in sight, and deregulation is a slow slog. In addition, the tariff policy unveiled by the Trump administration was so much larger and more drastic than expected that it has thrown the global economy into a paralysis. Production takes time and planning. Planning over time requires that businesses have relative certainty regarding tax and regulatory policy. The sudden and drastic tariff hikes on even the penguins off Australia by the Trump administration has all but halted business activity across the globe.
While trade is dropping off a cliff, we are also dealing with the following risks to the economy:
Ø Challenger Gray reported that in March, layoffs reached levels last seen during the Great Financial Crisis,
Ø Full-Time employment in the US has been stagnant for two years while the population has grown by over 7 million people. This never happens outside of recession,
Ø 2025 1st Quarter large US corporate bankruptcy filings have reached the highest levels since 2010,
Ø Retail sales have been flat to negative for almost three years, which never happens outside of the recession,
Ø the housing market is frozen for all except the most wealthy (who don’t need mortgages), as existing home sales in March fall to the slowest pace since 2009, and lastly,
Ø the Atlanta Fed’s GDPNow tracker shows the economy is likely to shrink by -0.5-2.5% in the first quarter which was, interestingly, before the tariff announcement and the ensuing chaos from “Liberation Day”.
The bottom line
The global economy is highly indebted from years of ultra-low interest rates and financial engineering designed to inflate asset prices and prop up failing businesses. The Federal Reserve began the process of reversing this “malinvestment” a few years ago by raising the Fed Funds Rate to over 5%, which effectively cut all those zombie companies off from the credit they needed to survive while shutting off the magic money machines banks utilize to perpetuate financial asset bubbles. The process this effectuates takes time to work itself out, but it inevitably occurs. Ironically, the Fed doesn’t seem to realize this…yet. When they do, look for them to “unexpectedly” cut the Fed Funds rate, and to do it quickly.
All that to say, the current hullabaloo about tariffs may end up having some severe short-term effects on the financial markets and economy around the world. But much more dangerous economic challenges were in place prior to April 2nd and Trump’s announced tariff policies, and those same challenges will be around much longer than the seemingly inevitable “resolution” to the tariff war (where not much changes but all political parties involved claim victory).
My recommendation to all investors is to watch yourself in this environment. If you aren’t careful, you may find yourself staring at a chess board while playing Russian roulette with your portfolio. Truly, these are “tariffying” times.