A Self-Inflicted Mess
Donald Trump's trade policy might be the biggest own goal since the Smoot-Hawley tariffs worsened the Great Depression.
As Donald Trump waltzed out to the Rose Garden on Wednesday afternoon, he proclaimed that it was “Liberation Day” in America. The president announced a 10% universal tariff, with many countries facing much higher rates on their exports to the US. After a bloodbath in the markets last week, the only things being liberated are 401Ks across the country and the United States’ global reputation. Monday’s trading session has proved volatile, with stocks fluctuating in and out of the red. Early in the morning, the S&P 500 nearly entered a bear market (a 20% decline from its high) but has recovered since. The VIX, a key measure of market volatility, has spiked to levels not seen since the pandemic.
Now, prediction markets are forecasting that the US is likely to enter a recession by the end of the year. Although Trump had long previewed April 2nd as the day when he would announce wide-scale tariffs, markets did not anticipate the extent to which they would be raised. In March, I wrote about the destructive impact of Trump’s tariffs on Mexico and Canada, along with the problem of taxing inputs to manufacturing like aluminum and steel. In almost any case, tariffs are bad because they raise prices, reroute capital to less productive industries, and fail to deliver promised employment gains.
Below, I will discuss the logic, or lack thereof, behind the administration’s imposition of a 10% universal tariff floor and the calculations used to determine Trump’s new tariff rates on foreign nations. Further, I will lay out the impact that these barriers will have on the US and global economy and provide an argument for Congress to reclaim its constitutional authority over tariffs.
Logic Behind the Administration’s Decisions
For Trump, the main reason to implement tariffs is because he believes that Americans have been “ripped off” on foreign trade over the last few decades. For him, any country that we have a trade deficit with means that the nation is exploiting the US - this is an incorrect way to view trade. When trade increases, Americans have gotten richer - this is an indisputable fact. Looking at the chart below, as international trade has increased, GDP per Capita and the overall size of our economy have grown as well. American consumers and producers alike benefit from lower costs of goods, cheaper inputs to production, and access to more efficient products and new markets.
Theoretically, I have a 100% trade deficit with my local bodega because they make me delicious sandwiches while buying nothing from me. They can do a much more efficient job than me at procuring food to make my sandwich, and at a lower price than if I did it myself (it also tastes much better). In exchange, I can use my extra free time to do things that I am much better at that provide value to others. Would I be better off if I started my own bodega, or would I just be way less efficient, in addition to not providing other useful services? Trump thinks the answer to this question is the former - he views trade not as a way for both sides to be better off, but as a zero-sum game where one country wins and the other loses. While Trump does not believe in comparative advantage, the economic reality is that both parties to trade are better off when they specialize in the goods (services) that they are most efficient at producing (providing). Instead, the president wants to pursue the failed idea of autarky in which the US makes all of its goods and does not need to rely on trade. This leads to inefficient industries as my bodega example tries to indicate. History teaches us that this theory will fail to deliver manufacturing gains, weaken purchasing power, and lead us to fall behind China in the global AI race.
When Trump unveiled the new tariff rates, many economists were struggling to determine how the White House calculated the “Tariffs Charged to the U.S.A,” given the fact that we have free trade agreements with many of the countries listed, like Israel and Singapore (meaning zero to few trade barriers exist between the US and those countries). To calculate the new tariff rate charged to other countries, White House economists appear to have simply divided the United States’ trade deficit with the country by American imports from that country. The White House countered, arguing they were using a more complex formula. However, when you simplify their formula (using the White House numbers for price elasticity to imports), you arrive at the same basic equation! Most glaringly, this is not a tariff rate at all - it is just a random number. The reciprocal rate, or the rate the US will charge on foreign goods, is equal to half of that percentage - again lacking any economic underpinning.
Since the White House promised a universal 10% tax on any imports, this means that even nations that the US is running a trade surplus will be unable to avoid Trump’s wrath. For countries that we have surpluses with, like the UK and Colombia, Trump is imposing a tariff even though they aren’t “ripping us off” according to Trump’s very own logic. Why are we tariffing countries if we are the ones taking advantage of them? To sum up the administration’s policy, the White House has decided to impose tariffs by using this function: Tariff Rate = max(10, (Imports - Exports) / Imports). Simply, the administration’s determination of the US tariff rate on a specific country is equal to 10% if the formula above generates a number below 10%; if the number generated by the formula is greater than 10%, the formula number becomes the new rate. If this sounds stupid, arbitrary, and economically senseless, that is because it is.
Policy Mistakes & Tariffs on Penguins
When you craft a policy that is disjointed and disconnected from economic fundamentals, you are bound to make some serious policy mistakes. For example, you may end up imposing tariffs on countries that produce goods or products that we cannot make in the United States in any scenario. In the continental US, we cannot grow coffee, which is why we trade with nations like Colombia to gain access to an important product. Here, we see how trade benefits both nations, giving US consumers access to a key product while providing Colombian growers with opportunities to grow their businesses. In Trump’s view, Colombia is “taking advantage” of the United States because Americans want to be able to drink coffee. The only thing a 10% tariff on Colombia will do is raise coffee prices, as shown below. Unfortunately, rising coffee prices are just one example of Trump’s erroneous policy.
For some reason, the White House has decided to put tariffs on sparsely populated islands throughout the Pacific, some even with no human population. The Heard and McDonald islands, a territory home to penguins and seals only was unable to escape Trump’s tariffs. Somehow, Secretary of Commerce Howard Lutnick defended the White House’s tariffs on the uninhabited island, arguing they were implemented to close “ridiculous loopholes.” There are not even any ports on the island to reroute goods through, so this has no basis in reality. Using the ill-crafted formula from above to set tariff rates, the nations that face the highest tariff rates make no sense. Lesotho, a country whose annual economic output is twenty times smaller than Wyoming, faces a 50% tariff. Does anyone think Lesotho or Madagascar, another nation facing 40% plus tariff rates is exploiting Americans? These are two of the poorest countries in the world that we barely trade with anyway.
From a national security perspective, Trump’s trade policy is forcing our allies into China’s hands. Putting tariffs on American allies forces them to retaliate, raising the price of American goods in foreign markets. As a result, our allies will turn to cheaper suppliers, namely China. This trade policy effectively makes China a more attractive partner and gives our chief adversary more power over the global economy. Interestingly, one country that evaded any new tariffs was Russia (even with sanctions, the US and Russia exchanged $3.5 billion in goods in 2024). This level of trade is greater than that of Mauritius or Brunei, countries that were included on Trump’s new tariff list. If the administration was intentionally trying to hurt the United States’ standing and ability to combat our enemies, it would not be doing anything differently. The White House is destroying our global reputation based on disproven economic thinking and the whims of one man.
Impact on the US and Global Economy
According to JP Morgan, Trump’s tariffs represent the most significant tax hike since 1968 when accounting for revenue raised as a percentage of GDP. Like all tax hikes, this will impact consumer confidence and spending that power the US economy. When the Smoot-Hawley tariffs were enacted near the start of the Great Depression in 1930, the US economy was less reliant on imports than today. While imports were 5% of GDP back then, today they are equivalent to about 15% of GDP, meaning these new tariffs will have a more drastic impact on American consumers. Also, note the dramatic rise relative to the entire post-World War II economic order - this will hurt American consumers through more expensive goods and producers through higher input costs and uncompetitive prices in foreign markets due to retaliation.
Over the last few days, the impact of Trump’s previously announced tariffs has already been felt throughout the US economy. Many leading economists and business executives are sounding the alarm on the administration’s policies. Larry Fink, the CEO of BlackRock, just announced that most CEOs he has spoken with believe that the United States is currently in recession. After praising tariffs just a few months ago, JP Morgan CEO Jamie Dimon has issued a warning about Trump’s new trade policy. The Atlanta Fed GDPNow tracker projects negative growth in the first quarter - I do think this is overly bearish for Q1, but it shows the potential damage from the White House’s chaotic policy. According to the University of Michigan, consumer confidence fell to the lowest levels since 2022 in March. Mind you, Trump’s recent tariffs do not come into effect until Wednesday - price increases will begin to be felt over the following months as businesses pass on price increases to consumers. While the employment market has held steady, the uncertainty and disruptions businesses must address threaten the future health of the labor market.
For the global economy, Trump’s tariffs will be devastating to the export-reliant economies of Southeast Asia, but almost every nation will face economic consequences. Vietnam, a US ally in Southeast Asia, is especially vulnerable to erratic trade policy and high tariffs. US exports account for roughly 30% of Vietnam’s GDP, with Trump’s policy likely to plunge the country into immediate recession with a 46% tariff rate. Today, Trump announced he would raise tariffs on China to over 100% if they do not remove retaliatory tariffs on US goods. Although China has diversified its trading partners since 2018 (the first US-China trade war), these tariffs will impact its export-based economy as well. In the long run, however, China may benefit from the collapse of confidence in the United States and form new trade blocs based on the desire for cheaper goods. The Japanese, German, and Hong Kong stock markets fell sharply on Monday, fearing the impact of long-term tariffs on some of the world’s largest economies. Without a recalibration in the White House’s policy, the global economy remains at risk of recession.
Role of Congress
While the executive branch has assumed the powers of tariffs over the last eighty years, the US Constitution gives Congress the power to enact tariffs. Article I, Section 8 states, “The Congress shall have the Power to lay and collect Taxes, Duties, Imposts, and Excises, to pay the Debts and provide for the common Defence and general Welfare of the United States.” From a business planning perspective, having Congress control tariffs ensures greater predictability on policy, allowing companies to make long-term investment and supply chain decisions with confidence. If the executive has sole authority, tariffs fluctuate based on the administration, creating needless uncertainty for businesses and financial markets. Turns out, the Founding Fathers may have known a thing or two.
Late last week, Senators Chuck Grassley (R-Iowa) and Maria Cantwell (D-Washington) introduced legislation that requires congressional approval for the new tariffs within sixty days. While it is surprising to see a Republican oppose Trump’s tariffs, Grassley’s home state of Iowa will likely be hurt most through retaliatory trade barriers, harming the ability of farmers to export their goods to foreign markets (this is what happened following Trump’s 2018 tariffs). For legislation to become law, the president has to sign it or Congress must override the president’s veto with a two-thirds majority in each the House of Representatives and the Senate. The former will not happen, and the second would require GOP members of Congress to oppose Trump, which seems very unlikely given his hold on the party. The real economy will need to significantly deteriorate to force congressional action.
Summary
Unlike the first Trump administration, no cooler heads are waiting to interject. The moderate Republicans and competent ex-Wall Street executives that pared down Trump’s first-term tariffs are gone - neither Steve Mnuchin nor Gary Cohn will be there to save us. Tariff hawks Howard Lutnick and Peter Navarro seem to trigger a 1% drop in the Nasdaq every time they hop on TV. Some on the right have argued that Trump’s actions are all part of a master plan that requires second and third-level thinking that most people cannot comprehend - they are wrong. Simply, Donald Trump does not understand how trade or comparative advantage works - he believes that we live in a zero-sum world, where enacting trade barriers somehow makes Americans richer. Unfortunately for the American people, we will pay the price for our president’s inability to pass an Econ 101 class.
The question is, what comes next? This administration does not care about what is happening in markets or the economy as a whole. Trump is fully committed to protectionism, autarky, and the disruption of free markets - ideas that should be left behind in the ashbin of the Twentieth Century. If Jerome Powell does not lower interest rates soon, it would not surprise me to see Trump come for the independence of the Federal Reserve. Trump criticized the Fed Chair in his first term and has called out Powell on Truth Social in recent days. At the very least, these types of actions destabilize markets and can cause harm to the real economy. In an ideal world, Congress would act to regain its authority over tariffs and courts can limit some of the administration’s actions through legal means. Hopefully, saner voices will emerge, and the administration will assuage recession fears through more reasonable policy. Given Trump’s track record, that does not seem like a safe bet.