Donald Trump’s dumb war just got much, much dumber

Donald Trump has just announced the most self-destructive set of policies in modern American economic history.

The United States built the post-war global trading system and its companies are the most enmeshed in it. Trump is about to tear it down, with unknown but inevitably destructive consequences not just for the US but for the rest of the world.

US President Donald Trump displays the signed executive order after his tariff announcement.Credit: Bloomberg

In his peculiar and rambling speech in the Rose Garden, Trump delivered his “Liberation Day” announcement of a 10 per cent baseline tariff on all imports to the US and far more punitive rates on imports from most of America’s major trading partners, allies and perceived foes alike. The average rate on imports to the US will be far higher than was anticipated – around, or even above, 20 per cent.

The “reciprocal” tariffs bear no relationship to the World Trade Organisation’s effective tariff rates and there was no explanation for how they were calculated, other than references to non-tariff barriers and value-added taxes (which don’t discriminate between sales of domestic or imported products).

If the initial tariffs Trump slapped on steel and aluminium imports were, as the Wall Street Journal wrote at the time, “the dumbest trade war ever”, the hotchpotch of tariffs Trump unveiled deserve even stronger language.

They will diminish US and global growth, increase US inflation, act as a regressive tax on US consumers and provide a pandemic-like disruption to global supply chains.

They’ll also spread waves of economic loss throughout the world, as everything including Australia’s beef industry, Europe’s car industry and Bangladesh’s clothing factories is hit by Trump’s beloved tariffs.

They’ll also provoke targeted retaliation, which will amplify the impacts on both America and those retaliating and probably result in further rounds of tit-for-tat tariff hikes.

American agriculture is an obvious vulnerability if there are retaliatory responses, but its service sector, particularly its big technology companies, should be nervous.

Trump always focuses on the $US1.2 trillion ($1.9 trillion) trade deficit America has in goods, but never talks about the $US1 trillion-plus surplus it has in services. It is inevitable that services would be listed within the responses the European Union prepared in anticipation of an escalation in Trump’s trade wars.

Trump’s tariffs will raise revenue – the best guesstimate is around $US600 billion a year – but, contrary to what he constantly (and falsely) asserts, that revenue won’t come from the countries on which the tariffs have been imposed but from US companies and consumers.

US tariffs are paid by the importer, on US soil, and either absorbed by the importing company, passed on to consumers or shared between them. Historically, it has been consumers who have borne the brunt of the impacts.

Trump says that his “beautiful” tariffs will force foreign companies to invest more in the US to manufacture in America what they previously exported from elsewhere.

While that could happen at the margin, there are several problems with that assertion.

One is that, for many of the goods the US imports, the US has no significant manufacturing capacity and no substitutes for the imported goods.

It takes time, perhaps years, lots of capital and a stable and predictable external environment to build a major manufacturing plant in the US, as well as some form of competitive advantage.

Even if Trump could coerce foreign companies to invest in US capacity – and, to be fair, some have said they would (although that proof will be in the pudding) – there will be a hiatus during which the prices of imports will spike.

Moreover, in the complex global manufacturing ecosystem that the US and its companies, primarily, have created over decades, supply chains are so interdependent that it will be very difficult – for many, impossible – for companies to shift from their current sourcing arrangements for their inputs to a purely US business.

The US isn’t self-sufficient in some of the key inputs to manufacturing and doesn’t have all the domestic resources it would need to be self-sufficient.

Trump has, for instance, put a 25 per cent tariff on aluminium imports but domestic production meets only about 50 per cent of the demand for aluminium. US aluminium prices, and the prices of downstream products that include aluminium, have already spiked.

He put a similar tariff on steel imports, which covers products with steel components. The prices of things as basic as screws and nails, which America doesn’t manufacture in any meaningful volumes, are spiking.

The US is a highly developed country with – relative to many of the countries on which it is imposing high tariffs (such as Vietnam and its 46 per cent rate) – high labour and non-labour costs.

US manufacturing wages average just over $US100,000. Bangladeshi exporters could, if they had to, absorb the 37 per cent tariff on their exports and still massively undercut a US manufacturer. China, facing a 34 per cent rate, has wages about a quarter of those in the US. Even European manufacturing wages are at least 25 per cent lower on average than America’s.

There are good reasons why America, and other developed countries, including Australia, exited low-value-added and labour-intensive sectors such as clothing, footwear and textiles industries, instead importing lower-cost products from low-cost developing economies for mutual economic benefit.

Trump’s obsession with tariffs, his threats to use them again against anyone who retaliates, the shadow of further tariffs on more commodities, such as copper, and his unpredictability and chaotic approach to policymaking – even on Tuesday, he and his cabinet were still trying to decide which form the tariffs would take – make for a volatile and uncertain environment for corporate decision-making.

That level of uncertainty, and the potential for his web of tariffs to be unwound by a future administration – or as early as next year’s midterm elections if the Democrats can get their act together and exploit Americans’ declining approval rates for Trump and the Republicans – will cause executives to be cautious about investing on the basis that the tariffs will be permanent.

A $US600 billion tax hike and its inflationary impacts, by themselves, will be negative for US growth. Add the uncertainty around the impact of Trump’s trade war – US manufacturing activity, employment and orders were already shrinking before Liberation Day, with business citing the looming tariffs as a factor – and the outcomes could be nasty.

Having been handed an economy growing at almost 3 per cent, with ultra-low unemployment and declining inflation, Trump’s love of tariffs (and misunderstanding or mischaracterisation of how they work) could produce a self-inflicted recession in what was regarded as the strongest developed economy in the world.

Financial markets had been hoping that what Trump announced in the Rose Garden would be the “kind” tariffs that he claimed he has ordered. Wall Street closed slightly up on Tuesday afternoon.

Instead, they got this hybrid of universal baseline and punitive reciprocal tariffs on everyone the US trades with.

Not surprisingly, after the close of trade, once the tariffs were announced, futures markets were a sea of red. That reaction may be a portent of what’s to come.

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