Cranes line a dock at the Port of Oakland on Thursday, April 3, 2025, in Oakland, Calif. | Noah Berger
On April 2, the Trump administration announced a system of tariffs on imports into the United States. The executive order imposed 10% tariffs for imports from all countries (excluding Canada and Mexico, which remain subject to tariffs imposed over the last two months) which take effect April 5, with higher tariffs for countries with which the U.S. has the largest trade deficit, to begin April 9. This means that imports from the European Union will be tariffed at 20%, while imports from China will see tariffs of 34% (see here for the full list of tariff rates.)
In the short run, these tariffs will lead to increased prices, particularly for household products, cars, construction materials and some food items. As an example, the U.S. imports the bulk of its jasmine rice from Thailand which will have a reciprocal tariff of 36%. The extent to which the 36% tariff will be borne by rice farmers in Thailand, importers, grocery stores or households depends on the relative price sensitivity of each of these groups, but economic consensus is that households will bear at least part of that cost through higher prices. Items from toothbrushes to cars to washing machines will be similarly affected.
Changes in the relative price of some goods and an increase in economic uncertainty around the profitability of some lines of business will lead to changes in investment decisions by companies in the United States. Retailers like Target, Amazon and Walmart will see margins tightened and will have decreased incentive to open new stores or expand existing retail locations.
Auto manufacturers will delay production as they seek to understand the impact on their business from the changes in tariffs. One early example is Stellantis, the manufacturer of American auto brands Chrysler and Jeep, who announced on April 3 that it will pause production on some auto lines leading to temporary layoffs for 900 hourly U.S. workers. Delays in production and investment are likely to continue as uncertainty about the way that these policies will alter the U.S. economy are digested. These reductions in investment and production delays increase the near-term likelihood of a recession.
If tariffs persist, they will change the composition of the U.S. economy. Tariffs increase the prices at which domestic producers of tariffed products can sell their goods. This increases potential profits in protected industries, leading to higher prices and often lower quality for manufactured goods. It also leads to shifts in the nature of goods produced in the economy.
Previously profitable sectors of the economy will see decreased demand as prices rise which will lead to layoffs and a short-term increase in unemployment. If the tariffs continue, jobs will eventually migrate to more tariff-protected segments of the economy. This will lead to overall declines in growth however, as these tariff-protected regions of the economy grow because of the increased profits associated with tariffs as opposed to increases in the demand for their products.
The executive order issued this week gives justification for the imposition of tariffs as “… a lack of reciprocity in our bilateral trade relationships, disparate tariff rates and non-tariff barriers, and U.S. trading partners’ economic policies that suppress domestic wages and consumption …” However, the tariff rate imposed on our foreign trade partners seems to be proportional to the ratio of the U.S. trade deficit with that country divided by the total dollar value of goods imported from that country, with a minimum rate of 10%.
As such, the policy enshrines the idea that if there is a trade deficit, it is because of unfair trade policies on the part of foreign counterparties. Yet this is largely not consistent with the nature of trade. Just as most households run a trade deficit with the grocery store (“importing” goods from the store in exchange for money), we choose to import goods from abroad because they can be produced more efficiently there and we would rather use our productive capacity to produce higher-margin goods and services.
We do not produce significant amounts of jasmine rice in the U.S. because doing so would be expensive for us and we would rather use our land and labor to produce goods and services that allow us to profit from our unique productive abilities.
Complicating the role of tariffs is the reality that one cannot decouple foreign demand for American-produced goods, which reduces the trade deficit, from foreign demand for American assets, which increases it. When a U.S. distributor of luxury Swiss watches pays $5 million for a shipment of timepieces, the Swiss manufacturer of those timepieces can choose what to do with that $5 million. They can use those dollars to purchase American-made goods, or they can use that money to purchase American assets like real estate, stocks, bonds or Treasury securities.
If they choose to purchase assets, then there is an increase in the trade deficit, which measures differences in the value of the shipment of goods (as opposed to assets) across borders. As such, the size of the trade imbalance with a country is inextricably linked to the relative desirability of American assets. The attractiveness in recent decades of American assets, and foreigners’ willingness to purchase them, is an important driver of our trade balance. This foreign investment in the U.S. because of the desirability of American assets has allowed U.S. companies to hire additional workers, produce additional products, and offer dividends that would not otherwise have been possible. A cooling of trade between countries as a result of tariffs will reduce this source of capital.
One open question is whether the tariff announcement this week represents a fundamental shift in U.S. trade policy that will persist throughout President Trump’s term in office, or whether it is the opening offer in bilateral trade negotiations to be had with our trading partners over the coming weeks, as has happened with Canada and Mexico since Trump’s inauguration in January.
Retaliatory tariffs from across the world is also a high likelihood. Either way, the uncertainty surrounding the implementation of policy in recent months and the questions that remain about the current proposal run the real risk of decreasing short-term investment and hiring by American companies and the desirability of American assets to foreigners. These risks have increased the likelihood of both inflation and decreased growth in the near term.
