The August 7 US tariffs should not have come as a complete surprise. They are averaging at a level in the range President Donald Trump said during the campaign that he would impose if elected. The US tariff, at an average of 17 percent, is a reversion to pre-WWII tariff levels. No other country is raising its tariffs generally, only the United States. The US tariffs are often discriminatory, not just when compared with taxation of domestic products but among imported products, foreign producers, and countries.
The chief US trade negotiator has suggested that the approach President Trump has taken in his August 7 tariff policy is a template not only for the approximately 13 percent of world trade that the United States accounts for but for the rest of world trade as well, the remaining 87 percent. This is a very interesting proposition. The world has prospered under a prior system, begun in 1948 and carried forward in 1995 by the World Trade Organization (WTO), a 166-member collective of large, medium, and small economies, that administers the world trading system.
Under President Trump, the United States has found the system inadequate and imbalanced, not receiving reciprocal treatment for its years of trade leadership that left it with an average industrial tariff smaller than 3 percent. Presumably, in the new system, each country would re-negotiate its trading arrangements with all others, following the US example. As each would be correcting a perceived imbalance in benefits, it would offer its negotiating partners nothing further in return. It would, however, need to have the economic or political power to induce a new equilibrium in its trade relations, as in only a few cases could adjustment be counted upon to take place voluntarily. It is for the future to find out if this approach is replicable. At scale, it would probably only be China and the European Union that would have the economic or political might to restrike bilateral balances in economic relations with the majority of countries.
It is against this future that the August 7 tariff scheme should be evaluated, to understand whether what the United States is suggesting could be a replacement for the current world trading system.
Attributes and effects the August 7 tariffs—A short list
At present, what the United States has created is not a new world trade order. The United States accounts for just under one-seventh of world trade. It has mandated solely a new set of requirements for dealing with the United States, sometimes involving investment and always involving trade concessions from the other party.
Trust in the United States has been eroded, particularly from a geostrategic point of view, with allies, the less committed, and even the least developed (paired with the loss of USAID). It has made the BRICS (original members Brazil, Russia, India, China, and South Africa plus newcomers including Egypt, Ethiopia, and Iran) targets.
The primary beneficiary of this erosion of trust is China (although fear of trade diversion offsets China’s gains in trade relations). It represents itself as the upholder of the current trading system, although this is not much believed, as Beijing practices a substantial amount of state intervention.
Certainty is eroded. How reliable or stable is this tariff? Will it be higher at some unpredictable time? Uncertainty has its own cost.
The United States lost its leadership in the WTO (and other economic and political relations more generally) and on trade matters generally. That will be hard to regain.
Whether mid-level countries (including the EU) can pull themselves together to improve and maintain the world trading system as it stood in 2024 is unclear. A substitute for US leadership has not been found.
How does the economic effect of a 17 percent average US tariff compare with the British flat value-added tax (VAT) rate of 20 percent (with some exceptions) or the EU VAT rates, which vary from 17 to 27 percent? The US tariffs are also a tax on consumption but one that only applies to imports. The Federal Reserve Bank of San Francisco finds imports account for about 11 cents in every dollar spent. Foreign exporters absorb some of the cost of the consumption tax, depending on the product, and downstream businesses (retailers, wholesalers, etc.) and consumers absorb some. The cost may be shared, but someone must pay it.
Under the new US tariff system, economic harms are not shared equally (e.g., the higher tariffs on Brazil, Switzerland, and India among others). US inflation will be somewhat higher. World growth will be somewhat slower. US growth will be even slower. And the US share of world trade will decline somewhat.
But the United States will remain a very large, attractive market of a comparatively rich country. US disposable income per person is at least one-third higher than any country in Europe or elsewhere. Trade with America will not end.
Trade among economies/countries (except the United States) will increase at a greater rate than would have been the case, absent the new tariffs. Other countries are considering liberalizing trade among themselves to a greater extent: The EU joining with the Comprehensive and Progressive Agreement for Trans-Pacific Partnership (CPTPP) countries is a real possibility.
For the United States, it will be hard to go back fully to the earlier, more open, trading system for many reasons, including the difficulty of giving up the new $300 billion source of extra revenue per year derived from just the tariff increases. In addition, increased protection to domestic industries will breed its advocates.
Some final points:
The dollar exchange rate: Changed trade flows from tariffs tend to strengthen the dollar; loss of financial market confidence in the quality of US economic policymaking tends to weaken it. So far, the latter effect has dominated.
US law: The August 7 tariffs add to arguments of opponents to the tariffs: The framers of the Constitution could not have intended any president to have this much power over taxation, and Congress certainly could not and did not delegate this much power to the executive branch.
Note: This list reflects conversations with colleagues at PIIE and other experts, but the responsibility for any error is solely my own.
Data Disclosure
This publication does not include a replication package.
