Tariff War – Trump’s Powerplay or the Beginning of a Long War?

Introduction

The global economic landscape underwent a seismic shift during the presidency of Donald Trump, characterized by a deliberate departure from decades of established free trade orthodoxy. At the heart of this transformation lay the imposition of sweeping tariffs on imports from major trading partners, including China, Canada, and Mexico. This was not a series of isolated actions, but rather a central pillar of Trump’s ‘America First’ agenda, a philosophy rooted in economic nationalism and a belief that previous trade agreements had disadvantaged American workers and industries. For decades, the United States had championed multilateral trade agreements, seeking to reduce barriers and foster global economic integration. However, Trump’s administration argued that these agreements had led to the erosion of American manufacturing, the loss of jobs, and the growth of substantial trade deficits. He posited that the United States had been exploited by unfair trade practices, particularly by China, and that a more assertive approach was necessary to protect American interests.

The imposition of tariffs was designed to serve multiple objectives. Firstly, it aimed to rectify what the administration perceived as unfair trade imbalances, seeking to ‘bring jobs back’ to American soil. Secondly, it sought to incentivize domestic manufacturing by making imported goods more expensive, thereby encouraging businesses to produce within the United States. Furthermore, the tariffs were wielded as a tool of geopolitical leverage, intended to pressure other nations on a range of issues, from border security to the flow of illicit narcotics. However, these protectionist measures ignited a firestorm of international reaction, triggering retaliatory tariffs from affected nations and sparking fears of a full-blown global trade war. The ensuing economic disruptions, coupled with the strain on international relations, underscored the complex and interconnected nature of the modern global economy, and the potential consequences of unilateral trade actions. The legacy of these policies continues to be debated, with lasting implications for international trade and economic cooperation.

What are Tariffs and how do they work?

Tariffs, in their most basic form, are taxes levied on imported goods. These taxes are collected by a nation’s customs authorities at the border or point of entry. The financial burden of these tariffs initially falls upon the importing companies, who are required to pay the specified tax amount to the government before their goods can enter the domestic market. However, the economic impact of tariffs rarely stops there. Ad Valorem Tariffs are the most common type, calculated as a fixed percentage of the imported good’s value. For example, a 25% ad valorem tariff on a USD 100 item would result in a USD 25 tax. Specific Tariffs are fixed amounts charged per unit of the imported good, regardless of its value. For instance, a USD 2 tariff per kilogram of sugar. Compound Tariffs are another type that combines both ad valorem and specific tariffs. The revenue generated from tariffs goes to the government imposing them. Historically, tariffs were a significant source of government income, but in modern economies, their primary purpose is usually to protect domestic industries. Importing companies, faced with the added cost of tariffs, typically pass these costs onto wholesalers, retailers, and ultimately, consumers. This results in higher prices for imported goods within the domestic market.

The Trump administration’s trade policies were characterized by a significant increase in the use of tariffs, particularly against major trading partners. Key examples include: Tariffs on Steel and Aluminum, imposed in 2018, targeted steel and aluminum imports from various countries, including allies, citing national security concerns. These tariffs were 25% on steel and 10% on aluminium. The administration initiated a series of escalating tariffs on Chinese goods, targeting a wide range of products. These tariffs were intended to address what the administration perceived as unfair trade practices, intellectual property theft, and the large trade deficit with China. Initially, 10% tariffs were placed on many goods, then those were increased to 25% on many items. During the renegotiation of the North American Free Trade Agreement (NAFTA), the administration imposed tariffs on steel and aluminium imports from Canada and Mexico. These actions added tension to the trade negotiations. Adding to the trade tension between the US and Canada, tariffs were applied to energy products.  

Tariffs directly contribute to inflation, as consumers pay higher prices for imported goods. Domestic businesses that rely on imported materials or components face higher costs, making them less competitive in both domestic and international markets. Tariffs often lead to retaliatory tariffs from affected countries, creating a trade war that harms all parties involved. This can lead to a reduction in exports. Tariffs can disrupt global supply chains, forcing businesses to find alternative sources of materials and components, which can be costly and time-consuming. While tariffs are intended to protect domestic industries, they can also harm industries that rely on imported inputs. Trade disputes can strain international relations and create geopolitical tensions. Proponents of tariffs argue that they protect domestic industries, create jobs, and reduce trade deficits. Critics argue that tariffs harm consumers, businesses, and the overall economy and that they often lead to retaliatory measures.  

Broader Context for Tariffs

Traditionally, tariffs have served as economic tools to correct trade imbalances and protect domestic industries. However, the Trump administration’s deployment of tariffs transcended these conventional uses, venturing into the realm of geopolitical strategy. While tariffs have historically addressed economic concerns, the administration’s rationale incorporated national security and foreign policy objectives, marking a significant departure from established practices. Traditionally, tariffs were used to protect infant industries, generate revenue, address unfair trade practices, and correct trade imbalances. The Trump administration, however, invoked a national emergency, citing the interconnected challenges of illegal immigration and the fentanyl crisis. This framing positioned tariffs not merely as economic measures, but as instruments of national security. The administration argued that Mexican drug cartels, operating with alleged complicity from elements within Canada, were the primary sources of fentanyl, fueling the US opioid epidemic and that illegal immigration from Mexico and Central America posed a national security threat. Consequently, they asserted that tariffs were necessary to pressure Mexico and Canada into taking decisive action against illegal drug production and immigration flows. This approach effectively weaponized tariffs, transforming them from economic tools into geopolitical leverage, and sought to link trade policy to broader foreign policy objectives, using economic pressure to achieve desired outcomes in areas beyond trade. This strategy, however, carried significant geopolitical implications.

The imposition of tariffs on close allies like Canada and Mexico strained diplomatic relations, undermining established partnerships. Critics argued that this approach risked alienating key allies, making it more difficult to address shared challenges. The interconnected nature of modern supply chains meant that tariffs could disrupt the flow of goods and services, affecting businesses and consumers in all affected countries, especially with the close trade relationship between the US, Canada, and Mexico. The use of tariffs as a political bargaining tool set a precedent for economic coercion, potentially leading to a more volatile and unpredictable international trade environment as other global powers could adopt similar tactics. Furthermore, the Trump administration’s unilateral approach to trade policy undermined multilateral institutions and agreements, potentially weakening the rules-based international trading system. The use of tariffs to apply pressure on other nations has created increased global tensions, potentially negatively affecting many areas of international cooperation. There is also much debate about the actual effectiveness of using tariffs in this way, with many arguing that diplomatic solutions would be far more effective in solving the problems of drug trafficking and illegal immigration.

The Global Retaliation

China has swiftly retaliated against Trump’s 10% tariffs with 10-15% levies on US agricultural goods and energy products. Additionally, Beijing added US tech and aviation firms to an unreliable entity list. They have also opened an antitrust probe into Google. The exports of critical minerals essential for high-tech manufacturing have been limited These measures signal China’s intent to counterbalance US pressure without escalating too quickly. While these retaliations hurt specific US industries, such as soybean farmers and energy exporters, China has so far refrained from more extreme economic countermeasures, leaving the door open for negotiations.

Initially delaying retaliation, Mexico committed to deploying 10,000 National Guard troops to the US-Mexico border to curb drug trafficking. In return, Trump agreed to a temporary pause on tariffs. However, after the tariffs were implemented, Mexican President Claudia Sheinbaum labelled them unjustified and announced plans for countermeasures, including tariffs on US goods and non-tariff restrictions. The Mexican government has also increased drug enforcement efforts, reporting the seizure of 20 million doses of fentanyl since the start of Sheinbaum’s presidency. However, Mexican officials argue that using tariffs as a punitive measure undermines cooperation between the two nations and strains diplomatic relations.

Canada’s Prime Minister Justin Trudeau strongly opposed the tariffs, calling them a very dumb thing to do. Canada responded by imposing retaliatory tariffs worth 30 billion Canadian Dollars immediately and an additional 125 billion Canadian Dollars in 21 days. The Canadian government also threatened to cut electricity exports to the US, a move that could significantly impact energy supplies in states like Michigan, New York, and Minnesota. Trudeau’s administration is also considering legal action under the US-Mexico-Canada Agreement (USMCA), arguing that Trump’s tariffs violate the free trade pact. The Canadian economy, which is deeply integrated with the US through cross-border supply chains, is at risk of economic slowdown if the trade war escalates further.

Impact on India

The ongoing global trade wars have created a complex and multifaceted impact on Indian companies and the Indian economy. The concept of reciprocal tariffs presents a significant challenge, as the imposition of tariffs mirroring India’s own could severely hamper key export sectors, including pharmaceuticals, gems and jewellery, textiles, and automobiles, by increasing costs and reducing their competitiveness in the American market. Furthermore, the disruption of established global supply chains, in which India is deeply integrated, introduces increased costs for imported components and materials, adversely affecting Indian manufacturing. India’s reliance on certain imports, notably active pharmaceutical ingredients (APIs) from China, renders it particularly vulnerable to the ripple effects of trade tensions between the US and China. Trade uncertainties also contribute to currency volatility, leading to fluctuations in the Indian rupee’s value. A weaker rupee increases the cost of essential imports, such as crude oil, triggering inflationary pressures. However, amidst these challenges, opportunities arise for India to diversify its trade relationships, strengthening ties with other nations and regional blocs to mitigate reliance on any single market. India can also position itself as an alternative manufacturing hub for companies seeking to diversify their supply chains. The substantial trade relationship between the US and India means that changes in tariff policies can significantly impact bilateral trade flows, affecting both exports and imports. While some domestic industries may benefit from reduced competition from imports, others that rely on imported inputs may face increased costs. In response, India is actively engaged in trade negotiations with the US and other nations, crucial for mitigating the negative impacts of trade disputes. The “Make in India” initiative aims to boost domestic manufacturing and reduce reliance on imports, enhancing India’s resilience in the face of global trade uncertainties. Simultaneously, India is pursuing trade agreements and partnerships with countries in Southeast Asia, Europe, and other regions to diversify its trade partners. Ultimately, strengthening the domestic economy is a key factor in withstanding global economic shocks. Therefore, while trade wars pose challenges, they also present opportunities for India to strengthen its domestic economy, diversify its trade relationships, and enhance its role in the global marketplace.

Future Outlook and Implications

While Trump’s strategy aims to strengthen US manufacturing, it risks escalating global trade tensions. His administration has hinted at imposing 25% tariffs on European goods, potentially disrupting trade with the EU. The possibility of a broader trade war threatens to slow global economic growth, especially if more countries retaliate. If trade tensions continue to rise, global supply chains could face long-term disruptions, forcing companies to rethink sourcing strategies and relocate manufacturing. While this could, in theory, boost domestic production in the US, the transition would be costly and time-consuming, potentially leading to job losses in sectors that rely on international trade. The coming months will determine whether Trump’s aggressive trade policy yields economic benefits or leads to prolonged financial turbulence. With negotiations ongoing, the world watches closely to see if diplomacy or escalation will prevail. The outcome of this trade war could shape global economic policies for years to come, influencing how countries approach tariffs, free trade agreements, and economic alliances in an increasingly interconnected world.

References

1. BBC – What are tariffs and why is Trump using them?
2. Deccan Chronicle – India Warns Against Dumping Due to Tariff War
3. Live Mint – Tariff wars are often short. Their legacies aren’t.
4. The Hindu – What will be the impact of Trump’s trade war? Explained
5. The Indian Express – US tariffs explained: What they are, how they work, and why Trump is using them?
6. Image by storyset on Freepik