In the name of revitalising American manufacturing, on April 2, 2025, the US President launched a sweeping array of so-called ‘reciprocal tariffs’, targeting products from countries big and small. These were on top of tariffs also introduced on specific countries and targeted products, such as steel and aluminium. Under immense pressure from a meltdown in the financial markets, within a few days of the grand announcement of ‘Liberation Day’, the ‘reciprocal tariffs’ were suspended for all countries, except for China. As for China, the tariffs were intensified to 145%.
China’s response has been resolute. It matched Trump’s tariffs, increment by increment. Eventually, at the last increment, China made it clear that it was going to ignore any further provocations indicating that at 125%, American products no longer had commercial competitiveness in China, rendering any further tariffs moot. Meanwhile, the Trump administration quietly exempted a raft of products from the ‘reciprocal tariffs’, focusing mainly on electronic goods. These goods, including smartphones, laptop computers and the like, account for approximately 22% of America’s imports from China. This was a backdown.
All of this took place within the first two weeks of April.
Trump is now publicly requesting China come to the table, insisting that China needs to do a deal. On this, he’s right in some respects but fundamentally wrong in others.
He’s wrong because there is nothing that the US supplies that China cannot source from other parts of the world, perhaps with the exception of high-end semiconductors, which have long been subject to export restrictions in any case. Conversely, there are many things that America imports from China that it cannot readily substitute with products from elsewhere. Consumer goods is one area, as indicated by Trump’s quiet backdown on consumer electronics, but the pivotal issues go to the supply chains for intermediate goods and critical minerals. Unsurprisingly, China has announced the prohibition of exports of seven critical minerals to the United States.
Trump’s backdown on consumer electronics also tells us something else. It is a tacit acknowledgement that the costs of tariffs are passed through to buyers, and isn’t paid for the exporting nation. This has always been part of the fabricated rhetorical edifice from Trump, rationalising tariffs as a means of making America wealthy again. On this argument, tariffs are paid by the governments of exporting nations, representing net revenues to the United States Treasury. As part of the political theatre of tariffs, Trump established an External Revenue Service. (Incidentally, Customs and Border Protection have long been charged with the responsibility and the authority to collect tariffs.) In practical terms, despite these marketing blandishments, supposed ‘technical glitches’ have meant Trump’s new tariffs have not been collected by ports. Talk is much easier than walk.
With the reality that higher costs are being passed on through the supply chain to buyers, the prospect of increased input costs for American enterprises is a cashflow and economic storm that is brewing. Adjustments cannot be achieved overnight, across the board. Trump speaks of some adjustment pain, but underestimates the challenges and costs involved in securing alternative suppliers and making any modifications to business workflows and practices to accommodate these new realities. Experience from the tariffs from Trump’s first term strongly suggests that as costs are passed on, the net effects on employment are negative. Whatever gains are made in the upstream protected sector are outweighed by the loss of jobs in the impacted downstream sectors.
Studies have also shown that tariffs hamper innovation, which is central to productivity growth. Ufuk Akcigit, Sina T. Ates & Giammario Impullitti tested this hypothesis by evaluating the effects of Reagan’s 1981 tax incentives for R&D and subsequent tariff policies. Their conclusion is straightforward. The tax incentives delivered a boost. Furthermore, other studies show that efforts to correct trade imbalances lead to significant adverse impacts on American welfare. Dekle, Eaton, Kortum (2007) tackled this question in a paper published in the American Economic Review, concluding that US welfare declines 6%. In a recent paper, Lukas Boer and Malte Rieth concluded that, “[t]ariff shocks are more important than trade policy uncertainty shocks. Tariff shocks depress trade, investment, and output persistently, in aggregate and across sectors and space.” Depressed investment is an interesting outcome because it undermines one of the principal putative effects of tariffs; namely that they will catalyse new investment.
Supply chain disintermediation also looms as another disruption to the US economy. Major brands’ production systems and supply chain networks are being exposed as Chinese OEM manufacturers have been showing the world that branded consumer goods sold at high prices in western (US) markets are manufactured for a small proportion of the price in factories in China. Near-finished goods are shipped to local manufacturers who add finishing touches, so as to legally comply with locally-made labelling laws. As consumers understand this reality, ‘brand rents’ could well be challenged by way of consumer boycotts, no longer willing to pay premiums for labels and brands.
In other cases, well-known brands will be compelled to respond to higher costs to consumers by radical adjustments to the overall structure of their supply chain systems. With retail networks accounting for up to 50% of final price (as retail gross margins), the lowest hanging fruit for disintermediation is to bypass domestic retailers with online strategies that are supported with a network of low-cost warehouses and fulfillment centres. Some 16.4 million Americans are employed in retailing. Some of these stand the risk of being displaced as brands move to ‘direct to consumer’ models as a way of preserving brand margins.
The obsession with merchandise goods trade deficits also masks America’s longstanding surplus in services trade. Sectors such as education services and tourism services contribute significantly to the US economy, and these generate considerable net revenues from international customers. Yet, in recent months, both these sectors have come under pressure as global demand has fallen away. Concerns about the safety of students has doubtless contributed to a reduction in interest in American education, as students are being pushed out and study visas cancelled capriciously. Tourism is already experiencing real falls in visitations, as European, Canadian and Australian travellers choose to go elsewhere.
The prospects of tariffs delivering an economic ‘golden era’ are low. Rather, the policies are more likely to reduce overall economic welfare, reduce innovation, dampen future investment and retard employment growth. Trump’s faith in tariffs is misplaced, and is as I have argued elsewhere, a function of a dangerous nostalgia.
If Trump is wrong on this front, and China has no objective necessity to negotiate a resolution to the present trade war as it can source its needs elsewhere and compensate for the loss of the US market through fiscal stimulus and expanded growth with the rest of the world, he is right that China needs to negotiate an outcome. But that’s for altogether different reasons.
Negotiating a detente with the US is necessary because an impoverished and decoupled United States is not in anyone’s interests. The risk of American retreat into economic autarky reduces its interests and stake in global economic relationships, and further diminishes its interests in existing international institutions. That the U.S. comprises about 14% of global merchandise goods imports is, while declining relatively, still not something to spurn on a whim.
But it’s the risk of intensified domestic instability that is, perhaps, the main reason for why China could come to the table. As core Trump constituencies like farmers in the Midwest are being urged by Trump to grin and bear it, and working class communities start to wonder why the promised land seems further away than ever, the political fallout is potentially incendiary and certainly unpredictable.
America needs to come to peace with itself before it can come to peace with the rest of the world. Negotiating an economic detente that contributes to American national healing is, arguably, a question of global interest. But there won’t be any free lunches for the Americans. China is no longer in the mood.
