What is a tariff, exactly? As President-elect Donald Trump, a self-described "Tariff Man," prepares to take office for a second time, the role of tariffs in global trade is as relevant as ever.
↑ XA tariff is a tax on imports, often known as a duty or a trade barrier. The purpose of a tariff is generally to protect domestic production and jobs, though economists say other domestic sectors and customers often end up paying for tariffs in the form of higher prices. The U.S. has applied tariffs on imports for centuries, but until Trump launched his China tariffs in 2018, the global trend had been toward lower tariff rates, lower trade barriers and expanding global trade.
Countries generally impose tariffs to protect certain industries that are perceived as essential or which have strong political influence. President Trump justified tariffs on aluminum and steel based on national security concerns.
The purpose of a tariff, which a government imposes to raise the cost of a particular import, is to limit or reduce the amount of that good imported into the country. Making an import more expensive can improve the economics of producing that product domestically.
Countries also can impose tariffs or raise tariff rates on trading partners to try to get those nations to reduce tariff rates or other trade barriers.
Tariffs also provide some government revenue, something that President Trump has touted. Total taxes collected on U.S. imports doubled from $37 billion in 2015 to $74 billion in 2020, after Trump imposed tariffs broadly on Chinese imports. However, to offset the impact of reduced Chinese agricultural imports, Trump has provided $61 billion in taxpayer aid to U.S. farmers.
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The U.S. tariff rate on light trucks, such as pickup trucks and SUVs, has been 25% since 1965. The Johnson administration applied that 25% "chicken" tax as punishment for Europe's tax on U.S. chicken imports. The protectionist measure has long outlived that trade spat.
That U.S. tariff has long protected domestic manufacturing from imports because it adds $5,000 to the cost of a $20,000 truck or SUV. To avoid that U.S. tariff, Germany's Mercedes-Benz decided in the 1990s to build an SUV assembly factory in America, as other foreign manufacturers have done.
U.S. importers pay the bill for tariffs on goods imported into the U.S., but the question of who ultimately pays the tariff cost is more complicated.
When President Trump imposed tariffs of 10% on $200 billion worth of Chinese imports in September 2018, Walmart (WMT) and other retailers said the tariffs would result in some combination of higher prices or lower profits.
Bicycles built in China were among the products on Trump's tariff list. A 10% tariff on a bike with a wholesale cost of $60 would add $6 to Walmart's cost of importing that bike.
Walmart could pay $3 of the $6 cost and pass half of it on to customers, whose price would rise by $3. In that case, Walmart profit shrinks and customers are left with a thinner wallet.
The company exporting the bike also could share in the pain. Walmart could demand its supplier lower the price or lose the massive retailer's business.
Still another possible way to offset the hit to business profits and consumer wallets is through currency adjustment. If Chinese goods cost American importers less because of a stronger dollar, the cost of Trump's China tariffs wouldn't bite. Since September 2018, the yuan has depreciated about 6% vs. the dollar as China's economy has struggled amid a deflating property bubble.
However, on May 10, 2019, Trump proceeded to hike 10% tariffs to 25% on that $200 billion tranche of imports that included bicycles, so the currency adjustment only has offset about one-fourth of the tariff.
New York Fed researchers found that prices of goods imported from China, without the tariff on top, fell only 2% from June 2018 to September 2019 as tariffs ramped up to 25%, meaning Chinese suppliers offset only a small part of the tariff.
Yet an October 2019 paper from researchers at Harvard, the Boston Fed and the University of Chicago's Booth School of Business found that major retailers imposed just a 0.7% price increase on products subject to a 20% tariff. That suggests retailers absorbed much of the tariffs by accepting thinner profit margins. Further, the researchers find that U.S. exporters facing 15% retaliatory tariffs responded by lowering their prices by about 5%.
Bottom line: If end consumer prices and import prices were little changed, that suggests American importers have borne much of the cost of the tariffs. However, those importers may have sought to shift some imports to other countries that weren't subject to tariffs. The broad cost also has to include the impact on U.S. exporters, whose goods may lose their competitiveness.
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While trade barriers can help an industry receiving protection, their customers can suffer. An oft-cited example is the 2002 imposition of steel tariffs under President George W. Bush. Studies generally showed that the steel tariffs boosted U.S. steel employment but led to a net loss of jobs when including job losses by steel-consuming industries.
A December 2019 study by Federal Reserve researchers concluded that Trump's 2018 tariffs were a net negative for factory jobs: "For manufacturing employment, a small boost from the import protection effect of tariffs is more than offset by larger drags from the effects of rising input costs and retaliatory tariffs."
Uncertainty caused by tit-for-tat tariffs also can weigh on economic activity. Other Fed research found that uncertainty about trade policy "may have lowered aggregate U.S. investment by more than 1%" in 2018 as firms waited for clarity before committing to new projects.
The data suggests that, at best, the payoff from tariffs only comes over the longer term, if domestic investment and output rises to make up for more expensive imports.
In 2018, Trump became the first president in modern times to systematically threaten and impose tariffs to try and reshape the flow of trade. Trump's stated purpose for new and higher tariffs? Shrink the 2017 U.S. trade deficit of $514 billion, boost U.S. production and increase manufacturing jobs. However, the U.S. trade gap has gotten larger, totaling $773 billion in 2023. As a share of the economy, the trade gap rose from 2.6% of GDP to 2.8% of GDP.
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Up through 1900, tariffs were the primary source of federal revenue and the average tariff rate generally topped 25%. But the government got a new primary funding source with the income tax in 1913 and later payroll taxes. Also, the average U.S. tariff gradually began to fall.
Then came a reversal in 1930 with the Smoot-Hawley Tariff Act that gave tariffs a bad name. The act raised tariffs on many thousands of products, hiking the average U.S. tariff rate by about 50%, and spurred retaliation. The average tariff rate remained below the level of a few decades earlier, but economists generally argue that Smoot-Hawley helped dry up global trade and exacerbated the Great Depression.
After that, there was a steady trend toward lower trade barriers. Before Trump took office, half of U.S. industrial imports entered the country duty-free, with no tariff imposed. In 2016, the average U.S. tariff rate was 1.6% across all products, according to the World Bank. That was equal to the European Union's average tariff rate and slightly above the Japan tariff rate of 1.35%. China's tariff rate was 3.4% in 2018. After Trump's escalation of tariffs, the average U.S. trade-weighted tariff rate stood at 3.1% in fiscal 2020, according to U.S. Customs data.
Understanding trade barriers isn't limited to what is a tariff and what is the tariff rate. Governments also can impose quotas or other non-tariff trade barriers to restrict foreign companies from competing in domestic markets. While a tariff raises the price of an import, a quota caps how much of a good can be imported.
For example, Canada has long protected its dairy market by imposing a quota on how much milk, cheese and butter other countries can export to Canada. In the revised Nafta deal, called the U.S.-Mexico-Canada Agreement, or USMCA, Canada agreed to lift its dairy quotas for the U.S. Canada can still apply tariffs of 200% on U.S. imports in excess of the new quotas.
Similarly, the USMCA deal set new quotas of 2.6 million passenger vehicle imports to the U.S. apiece for Canada and Mexico. Above those levels, vehicle imports couldn't qualify for duty-free treatment.
Limiting imports via tariffs and quotas lets domestic companies in the affected industry charge higher prices due to reduced competition. Some governments also restrict access to their markets in other ways, such as making it hard for foreign companies to get a license to do business.
The peak of the China trade war came in August 2019. After already hitting $250 billion in Chinese goods with tariffs, Trump announced his intention to impose 10% tariffs on the remaining nearly $300 billion worth of Chinese imports that hadn't yet been hit. He later delayed the start date to mid-December for electronics, toys and other goods.
Weeks later, China hit back, reimposing tariffs of 25% on U.S. autos and targeting another $75 billion in American-made goods with higher duties. That prompted Trump to unload again, bumping up his plan for 10% tariffs to 15%. Tariffs on the first batch, on categories including apparel and footwear that amount to about $120 billion in annual Chinese imports, took effect on Sept. 1.
Days later, the U.S. and China agreed to stop escalating and restart negotiations. Finally, on Jan. 15, 2020, the U.S. and China signed a limited, "phase one" agreement. Trump agreed to cut in half — from 15% to 7.5% — tariffs imposed on $120 billion in goods on Sept. 1, 2019. However, 25% tariffs remain on other categories of Chinese goods that represent $250 billion worth of annual imports. In return for a partial rollback of Trump tariffs, China agreed to boost its U.S. purchases by $200 billion over two years, but never followed through.
Trump hasn't fired, or even threatened, any further tariff shots. Yet the focus of the China trade war has shifted to even more contentious terrain: export controls. The Trump administration has barred exports of sensitive technology to Chinese telecommunications gear giant Huawei to derail its pole position in new-generation 5G wireless networks. Export controls also have targeted firms involved in technology surveillance of Muslim ethnic minorities in China's Xinjiang region.
For its part, China created its own "unreliable entity" list comprising companies judged to be working against the country's national or economic interests.
In September 2022, the Biden administration shifted the focus of the trade war with China to a strategic battle over technological leadership, blocking sales of high-end AI chips from Nvidia (NVDA) and AMD (AMD) to Chinese companies. Weeks later, the U.S. announced sweeping export rules aimed at blocking China's chip progress at every chokepoint.
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