Trump's Tariffs and Their Consequences

INTRODUCTION AND SUMMARY

This is an early analysis of the tariffs on China, Canada and Mexico announced on March 4.

Some simple math (20-25% tariffs on $1.5 trillion of imports from China, Mexico and Canada) gives a $300 billion tax on Americans, before any adjustments in behavior by consumers and manufacturing companies. But an analysis by the Tax Foundation, a think tank, indicates that government revenue from these tariffs might be closer to $110 billion. Revenue would be substantially lower if there were "carve-outs" (no tariffs) on imported American cars, oil and naturally gas.

Tariffs are basically a tax on inputs and the wholesale prices of consumer imports. The results of a tariff are higher prices and lower unit sales. The cost of a tariff is split between manufacturers and consumers. The split depends on the price elasticity of demand (mostly determined by the kind of product and the closeness of substitutes).

Spread out over the whole economy, the originally announced tariffs probably will have a small impact on retail price indexes, although some individual products and product groups will see large price increases. But as tariffs go higher and put on more products and countries, tariffs will have a bigger impact. In the extreme, much higher tariffs will cause an American and global recession, higher prices, lower real incomes and unemployment. 

Noticeable price increases will probably occur in key consumer product groups like cars, gas, consumer electronics, and clothing. For many groups, there are substitutes produced in America (often with taxed inputs but the retail price will not rise as much as finished product imports from tariffed countries) or countries not yet subject to tariffs. But virtually every product manufactured or assembled in the United States depends on a complicated global supply or input chain. It is impossible that the entire input chain of such products as cars or chips could be produce in America.

Even if the tariffs bring in $200 billion to the government, this will reduce the trade deficit with these three countries by about 20%. The $200 billion would decrease the fiscal deficit of $1.8 trillion by about 12%. This is only half of the increase in the forecasted deficit if Trump's 2017 tax cuts are renewed this year, which is almost certain. And about even with the increase in the interest cost of the national debt if interest rates stay where they are (April, 2025).

Possible extensions of tariffs and intended and unintended consequences are discussed.

OVERVIEW

Trump, of all people, does not seem to understand that companies, not countries, import and exports goods and services. Trump does not seem to understand that many American companies and industries have outsourced the production of their inputs, products and services to China, Mexico and Canada to lower costs and increase profits. Retailers source much of their products sold to other countries, particularly China. Walmart has 3,000 purchasing agents in China buying over 70% of the products in a Walmart store. This is the main reason for America's trade deficit.

Tariffs on "Mexico" will hit American car companies and their suppliers particular hard. Trump has threatened to raise tariffs on Canadian car imports in order to "permanently shut down the automobile manufacturing business in Canada." Most of the imported cars from Canada are made by American car manufactures. 

Foreign sales by American companies are important, especially for America’s largest corporations. Most of these sales come from investments in other countries, producing for the local or regional market. Of the companies in the S&P 500 Index (500 largest public companies), over 40% of their sales and almost half their profits are earned are outside of the United States. Much of this is exposed to retaliation. 

The tariffs will affect foreign sales and lead to complicated supply chain changes. It will affect all aspects of corporate strategy.

Retail prices to consumers will not go up as much as the tariffs. American companies have only outsourced production. Much of the price consumers pay is for design, marketing, advertising, distribution and retailing, all of which is done in America. This is good news for buyers of iPhones and Nikes. 

American manufacturers will raise prices as prices of competing imports rise (in addition to the higher costs of imported parts, subassemblies and services). Retaliatory tariffs and restriction from foreign countries will hurt American exports. The U.S.'s export have been rising steadily for decades. Currently (2024), total exports (goods and services) are close to $2.5 trillion.

U.S. farmers are big exporters and are sure to get hurt. China immediately raised tariffs on imports of American farm products.

Canadian and Mexican exports will cost less in global markets than in the U.S. Some exports will be diverted to other countries. For example, some cars assembled in Mexico or Canada for the U.S. market could be sold in other markets.

America imports almost all of its solar panels from China. It is too early to tell how much of proposed American production (subsidized by Biden programs that Trump doesn’t like) will replace imports. The net result will be that the costs and prices of renewable energy will go up. The transition to products that fight global warming will be slower in the United States.

Gas prices will go up in New England because a substantial portion of gas and diesel come from a refinery in Canada. Also home heating fuel. For the same reason, gas prices will go up in the Midwest. Electricity prices will rise in New England and New York.

The price of toys, stuffed animals, Legos and Barbie dolls will go up because most toys bought in America come from China. But the price of coal will not go up. Guess what will be in your children’s Christmas stocking next December?

Texas has a lot of cross-border trade with Mexico. Texas trade with Mexico will be hurt, according to Texas Senator Ted Cruz (R), a Trump supporter.

There might be less investment in America. Much of the recent surge in investment has been related to AI, so the overall impact might not be too great for a while.

Mexico, besides cars, is a major source of fresh fruit and vegetables. A major American importer has already raised prices 20%. There goes the movement of trying to get Americans to eat healthier. The cost of Corona and Modelo beer will rise. Even worse is the increased cost of tequila!

More smuggling. Unlike Mexican drug exporters, smugglers of many goods will not have to set up new distribution networks. There is already a large distribution network for the related businesses of selling stolen, counterfeit, and black-market goods - eBay and Amazon. Illegally imported food products can be sold at so-called urban “farmers markets.” There has been a big increase in egg smuggling on the Mexican border. ICE agents now search cars and trucks for contraband eggs. 

 

RETALIATION

China - relatively small, hitting food imports and American farmers the hardest. Chinese companies are setting up shell companies in other countries to avoid paying tariffs.

Canada - also relatively small, hitting American booze exports the hardest. But the government announced that if there were no reductions in the tariffs, there would be a four-fold increase (in value) in tariffs on American imports.

Mexico - no new retaliatory tariffs. Yet. The one month reprieve might delay retaliatory tariffs.

Europe might be next; Trump has threatened to impose tariffs on Europe. It would be consistent with Trump's and Vance's harsh criticism of Europe. This would bring in more tax revenue. It is difficult to see how European countries would react. But, given the changing geopolitical relationship between the U.S. and Europe, I think they would impose "reciprocal" tariffs.

In yesterday’s speech, Trump promised more “reciprocal” tariffs. Also, there are tariffs on all imported steel and aluminum continue, again, hurting the auto industry.

Trump's business experience is to negotiate over one deal and then move on to the next. But the reality is that the tariff game is like a poker game with many players and unlimited raises, which are like rounds of retaliatory tariffs and restrictions. The endgame will be a global recession in the short run and unintended negative consequences in the long run. The game never ends. But the consequences will be someone else's problem.

Trump is probably right that American tariffs can hurt Canada and Mexico ("We hold all the cards") more than retaliatory tariffs can hurt the United States. Canadian and Mexican exports to the U.S. as a percent of their GDP are much higher (20% and 30%) than U.S. exports to these two countries. But the U.S. would also lose. Trump is playing a negative sum game. You don't win just because you lose less than the other players.

AMERICAN AUTOMOBILE INDUSTRY

Almost half the cars sold in the United States are imports. About 23% of cars sold in America come from Mexico; another 10% come from Canada. About $100 billion in parts and subassemblies cross the border and will have to pay the tariff, in addition to the tariff on completed cars that are imported. Price of cars in America will go up and possibly car sales will go down. American car manufacturers are in poor financial shape and cannot afford to absorb the cost increases.

One way to avoid paying the tariffs on cars in America is to buy a Honda. Hondas are assembled in America; Hondas also have the highest percentage of American-made parts than any other car. This only applies to gas-powered cars.  

One example is ZF, a major manufacturer of transmissions. ZF has plants in the U.S., Mexico and Canada. A major part of its transmissions are made in Mexico. They is sent to the U.S. The transmissions are then shipped back to Mexico to be installed in most of the American cars produced there.

American auto executives must be in shock (or very scared).  The average cost of cars will go up at least $2,700, and more for big pickups and big SUVs (Barclay’s Bank). Barclay’s Bank analysts also estimate that tariffs “could wipe out…all profits” of the three American car companies. Or worse. Profits are a major source of investment capital. If this happens, it implies that the Big Three American car companies will not have the cash flow to invest in EVs. That means eventual extinction.

Taxing big pickups and big SUVs plus higher gas prices plus tariffs on steel and aluminum strike at the heart of the American way of life. 

TESLA

EVs are especially vulnerable to the tariffs on China since a high percent of EV car batteries are made in China. Batteries account for about 40% of production costs.

Tesla has huge plants in the U.S., China, and Germany. The company does not export cars produced in China to the U.S. but it does export cars to Canada and Europe.

Surprisingly, the company that could be hurt the most is Tesla, not directly by tariffs but by being identified with Trump's tariffs.

Tesla had troubles even before Musk's role in the government. Globally, Tesla sales in 2024 were flat, compared to a 40% increase in 2022 and a 38% increase in 2023. Teslas are becoming less competitive as Chinese cars offer more models and lower prices, wizzy electronics, "infotainment" and driver-assisting features. Tesla does not need a global political backlash on top of its weakening global market sales and market share. 

Data from the China Passenger Car Association showed that Tesla’s February sales, which includes exports and domestic sales from the Chinese plant, dropped 49% year-over-year. Shipments from Tesla's Chinese plant are the lowest since 2022. I doubt if any patriotic Chinese will now buy a Tesla. 

Already, Tesla sales in Europe are going down. In January, Tesla's sales in Europe fell 45% - 76% in Germany while overall EV sales were up. Another big drop in February. The European press has reported a great deal of anger at Trump and Musk and organized protests and business boycotts aimed at Tesla.

Sales in the U.S are going from spectacular growth to no growth. In 2024, EV sales in the U.S were up 7% but sales of Teslas were down 1%. Sales would have been even lower if not for a surge in sales after Trump’s election, and reduced prices. Profits are down over 50%. U.S. sales were down 11% in January.

Things might get worse because the political backlash aimed at Musk might reduce American sales and profits more; someone in marketing must know that a large part of Tesla’s target market are liberal, higher-income, and environmentally aware. And I doubt if there will be many new Teslas in federal government parking lots or family farms or in the driveways of veterans.

Tesla’s stock price rose after Trump’s election and is now getting clobbered. As of March 10, Tesla is the worst performing stock in the S&P 500 this year. But the P/E ratio is still very high, about 130 times 2024 earnings per share (EPS). Any fall in earnings per share will lead to another large decline in Tesla's stock price. In the worse case scenario, Tesla's investment in the huge plants in China and Germany could be financial disasters.

Elon Musk is proud that all Teslas sold in America are assembled in America. But 40% of its car batteries are from China. The company also buys parts from Mexico and Canada. Tesla's growing battery business is in storage batteries.

There could be retaliation against American companies in China and elsewhere. In the extreme, the Chinese government could seriously weaken Tesla sales in China and exports to other countries. Currently, the Chinese government considers Musk a "friend" and a possible pro-Chinese voice in the administration. But as tariffs climb and rounds of "reciprocal" tariffs kick in, the China government might reconsider.

If the Chinese government banned Teslas in China in retaliation to the U.S. effectively banning Chinese EVs, China could probably destroy Tesla as a company.

Although sales are falling in the U.S, what will keep Tesla afloat is that the U.S. government effectively bans imported Chinese EVs. And tariffs on American EVs produced in Mexico should also help, although they are much less of a competitive threat than Chinese EVs would be.

China is a bigger EV market than the U.S, about 13 million compared to about 1.6 million in the U.S. in 2024. EV sales in China in 2024 were half of all sales, compared to 10% in the U.S.

Tesla's sales in China, as a percent of all EV sales in China, are going down rapidly.

Tesla has had to recall all Cybertrucks. Panels are falling off.

FINANCIAL AND ECONOMIC CONSEQUENCES

President-elect Trump made his “love” of tariffs well-known during his campaign and right after his election.

President Trump has made it clear that tariffs are at the center of his economic strategy. It overlaps with his geopolitical and foreign affairs policies. Promises of reducing the yearly deficit substantially, reducing interest rates, and instituting further tax cuts beyond the extension of his 2017 tax cuts have almost disappeared as economic policy goals.  

Tariffs may not decrease the trade deficit very much because of retaliation. Also, American and foreign companies will shift production to countries not subject to American tariffs. Already in the business press there are articles on how to minimize or avoid the tariff tax.

If Trump puts a blanket tariff on all imports, as he has threaten to do, the price of foreign and U.S. products will all go up, leading to higher inflation. Aggregate demand (total consumer and business investment spending) might go down; this is called a recession. It will be global.

If the stock market continues to goes down, this will hurt total consumer demand, especially for high-end goods. In economics, this is known as the wealth effect. Also, government revenue from capital-gains taxes could fall.

The stock market has really tanked this week. The long bull market may be coming to an end. The bond market seems to believe higher rates of inflation are coming, leading to higher interest rates. This is bad news for the housing market, which is already weakening. 

If tariffs lead to higher inflation rates and higher nominal  interest rates, the higher interest rates on the national debt will increase the yearly deficit. A 1% increase from, say, 3% to 4%, increases the yearly deficit by about $300 billion.

Consumer sentiment is falling rapidly, partly due to a fear of inflation and general fear and uncertainty. Consumer spending fell in January, partly due to a large decrease in pending house sales. The Atlanta Fed forecast, based on almost real-time data, dropped a bombshell. From a positive increase in the first quarter of 2025's GDP, they now forecast a decrease of 2.1%. But consumers might rush to buy products, especially cars, before higher prices kick in.

Tariffs on Mexico, Canada and China, with retaliatory actions, would lead to a major unraveling of the global economy. Even worse would be the additions on Europe or blanket tariffs on such imports as steel and aluminum. 

Long-standing trade agreements are being smashed.

NON-ECONOMIC CONSEQUENCES

The tariffs will further fuel anti-U.S. anger among European, Mexican and Canadian friends and allies. Already, Canadian politicians are reacting by using strident anti-American language. There is anti-Americanism in Mexico, which could explode. No Mexican government can ignore this.

Tariffs on steel and aluminum have gone in effect. The biggest exporter to the U.S. is Canada. American auto manufacturers, who have begged Trump not to put a tariff on their imported cars and parts, have now asked him to remove the tariff on steel and aluminum.

President Trump has threatened to put tariffs on European exports to the United States. This would be a major escalation in the deteriorating relations with Europe. It would be consistent with the recent harsh anti-European rhetoric of the Trump administration. This would all but guarantee a break in U.S.- European political relationships. Many European countries are drawing up contingency plans if America pulls out of NATO or cannot be relied on to help defend Europe. America's attitude towards Ukraine is a wake-up call of that America may stand by if Russia invades a NATO country, such as Poland. 

Historically, protectionism breeds isolationism. This would be a losing strategy for the United States in an increasingly hostile world. 

An economic and political breach with Europe would all but guarantee that Chinese car companies will dominate EV sales in Europe and globally.

UPDATES (This is more fun than watching the soaps)

American auto executives spoke with Trump and begged for some relief. Trump has suspended the tariffs on cars imported from Mexico and Canada until April 2.

Trump has suspended tariffs for one month on most Canadian and Mexican exports to the U.S. Either this is another example of Trump's "negotiating" style or someone has pointed out to him that the tariffs will add to inflation and probably increase unemployment. This will contribute to the overall weakening of the American economy.

Trump said Friday that he could impose reciprocal tariffs on Canadian lumber and dairy products as soon as today. Canada is a major source of lumber. Putting a tariff on Canadian lumber (30% of the U.S. supply) will further increase the cost of building houses.

Canada, of all countries, is being treated as Ameria's number one economic enemy. 

Canada has imposed tariffs on imports of American booze. No Canada dry jokes please.

Canada has suspended imports from the biggest U.S. pork processing plant, a facility run by Smithfield Foods in Tar Heel, North Carolina, the company said on Friday. Less competition for Canadian bacon (just kidding).

American corn farmers had a large crop last year in response to high prices. They were planning on planting even more this year. China buys a lot of American corn. China's retaliatory tariff on corn might affect American exports. Also, a major input - nitrogen fertilizer - may be more expensive if imported oil and natural gas go up in price. Since most of  this corn is fed to animals, meat prices could go up.

Canada is launching a C$5 billion program to help Canadian exporters reach new markets as part of measures to support businesses and workers in response to U.S. tariffs, the federal government said in a statement Friday. About 75% of Canadian exports go to the U.S. A major source of imported oil and natural gas.

President Trump promised "boom" times if he were elected president. That was easy to promise. He inherited an economy with higher-than-average real growth rates, extremely low unemployment and falling inflation. The stock market was enjoying one of its strongest bull markets. Now he is talking about a possible recession or a difficult transition, mostly due to higher tariffs. A difficult transition from a strong, growing economy?

President Trump said he will be increasing tariffs on Canadian steel and aluminum to 50%, starting March 12, in response to Ontario's 25% surcharge on electricity coming into the United States. 

Spot prices for steel, aluminum and copper rose in anticipation of the increased tariffs. The U.S. gets 70% of its imported aluminum from Canada. And again, Canada is the largest exporter of steel to the U.S. 

American manufacturers are paying much higher prices for aluminum, steel and copper than rival plants overseas. The spot price for aluminum bound for America is four times higher than the aluminum spot price in Europe (March 11).

Companies around the world are rushing to ship products before tariffs are reinstated on April 2.

Consumers in America are rushing to car dealerships to buy cars before April 2. Maybe this will help America avoid lower real GDP in the first quarter. But then comes the second quarter.

Trump lowered expected tariffs on Canadian car back down to 25%. He raised the rate to 50% when the Prime Minister of Ontario put a tariff on electricity sold to America. This is a little weird since the amount of electricity exported to the U.S is a very small percent of the total amount consumed in America.

Europe has retaliated to the tariffs on steel and aluminum by putting tariffs on imported bourbon, jeans and Harley Davidsons. Well, there goes Europeans' opportunity to imitate the American way of life. Maybe President Trump will buy a Harley Davidson.

New tariffs on imported steel and aluminum go into effect. Quote from the New York Times, March 13:

Canada, a major supplier of metal in the United States, said that it would impose new retaliatory tariffs on $20 billion worth of American imports, including metals, computers and sporting goods. And the European Union swiftly announced tariffs on up to $28 billion worth of American goods, including bourbon, boats and motorcycles.

These tariffs are important because they are global, that is, affecting all countries exporting to the United States. And another source of higher car prices.

In response to Europe's retaliatory tariff on bourbon, Trump threatens a  200% tariff on "wines, champagnes, and alcoholic products" if the EU does not remove this tariff.

Tesla’s sales fell in Europe for the second consecutive month. The company sold 17,000 electric vehicles in the region in February—a 40% decline from one year earlier. The drop came despite a 26% rise in EV sales over the same period. Mr Musk’s support for hard-right parties, including the Alternative for Germany, has alienated some European consumers.

President Trump said he would impose a 25% tariff on countries that buy oil or gas from Venezuela. The tariffs are scheduled to take effect next month. China and India are two of the top importers of Venezuelan

crude.

Updated March 25.

HISTORIC ANALOGY

At the beginning of the Great Depression, Congress passed the Smoot-Hawley tariff bill of 1930 to protect farmers. Of course, everyone in Congress added their favorite worthy group that wanted protection. Tariffs went up to 60%. 1,000 economists, a rather conservative bunch in 1930, warned of the negative consequences of the bill.

The main target was Canada, America's largest trading partner. The more anti-American party won the next election. 

Anti-American boycotts of American products started in Europe. American exports to Europe and Japan fell.

England walled off its Dominion countries and colonies from American imports; France and Holland did the same with their colonies. Since imports and exports were a small percent of the American economy, the Smoot-Hawley tariff bill was probably not a major cause of the Great Depression. But, on the margin, it contributed to the length and depth of the Great Depression. 

Imports and exports are a much higher percent of the American economy now. Protectionism has a higher cost than in the 1930s. About 5% in 1930 vs. about 20% now.

Tariffs and other barriers to trade reenforced America's isolationism. To keep America out of the looming European war (on England's and France's side), a strong America First movement arose. Some of its members, including Charles Lindbergh and a future president of Yale, were pro-Hitler. The organization effectively disbanded in December, 1941.

Another possible analogy. In 1938, Neville Chamberlain, the Prime Minister of England, caved in to Hitler's threatened annexation of part of Czechoslovakia. He said he believed that Hitler, as promised, would not try to take over any more of  Czechoslovakia or Europe. Chamberlain, on returning to England, announced there would be "peace in out time." A year later England went to war because Hitler invaded Poland. Chamberlain remained Prime Minister until Dunkirk.

A LITTLE INTERNATIONAL ECONOMICS

Tariffs raise prices, making American consumers poorer. Americans buy fewer foreign goods. Foreigners earn fewer dollars to swap for their domestic currency (to meet domestic costs). Fewer dollars are offered (supplied) in foreign exchange markets. The value of the dollar rises against other currencies, making American exports more expensive. The foreign demand for American goods go down. Among other consequences, employment in exporting companies and industries go down.

So tariffs are a tax on American exports as well as American imports. If foreign countries retaliate against American exports, there is even less demand for exports, further harming American manufacturing.

Data

The 20 product types that were exempted on Friday account for nearly a quarter of U.S. imports from China. Other countries in Asia would be even bigger winners, he said. Should the tariffs on those countries kick in again, the exemption would cover 64 percent of U.S. imports from Taiwan, 44 percent of imports from Malaysia and nearly a third of imports from both Vietnam and Thailand.

America’s share of world chip manufacturing has fallen to just 12 percent today from 37 percent in 1990, according to industry figures.

For the absurdity that chips are made in one country, see New York Times, "The Global Effort to Make an American Microchip," March 20, 2024.