On what was described as Liberation Day this Wednesday,
Donald Trump held up a large cardboard sign in the White
House Rose Garden with a list of countries along with his
estimate of their tariffs against America, which he said
included currency manipulation, trade restrictions and other
distortions like value added tax.
As he revealed his placard, the stock market began its decline
to what would soon be the 15th biggest gap down open for the
S&P in its history. Joe Weisenthal at Bloomberg
described watching the speech as one of the most surreal events
in his life, saying that he has seen speeches and press
conferences that the market hated before like this, but they
had all been given in the middle of a market crisis and the
market plunged because the speaker was seen to not be doing
enough. He says that this was the first
self manufactured event like this that he had seen.
And what made it worse, he said, was that the administration knew
how much damage they would do, but went ahead with even more
aggressive actions than anyone had expected.
To be clear from the start, this is not a political video.
I've no interest in covering political topics, but this is
likely to be the biggest market event of the year.
My goal is just to discuss the ideas behind these tariffs and
their economic impact. Both sides of the political
aisle in the United States had been moving in a protectionist
direction in recent years, and Trump's moves are just more
extreme than Biden's were. But neither were taking a free
markets approach. During the Liberation Day event,
Trump announced new reciprocal tariffs on almost all of
America's trading partners. He announced that there would be
additional tariffs of 34% on China, 27% on I24, percent on
Japan and 20% on the EU. All other countries face a
tariff of 10%. And these tariffs are on top of
other tariffs already announced by the Trump administration on
China, Mexico, Canada and the other industry.
The total tariff rate on China will now be 65%.
If the US applies to 25% Venezuelan oil buyers tariff to
China, it goes even higher. If there was one bright spot,
Canada and Mexico were spared additional tariffs and the new
ones won't be added to industry specific tariffs like the 25%
tariff on cars or the promise tariff on semiconductors.
America's overall tariff rate will now soar far above its
Depression era level to the highest rate seen in over 100
years. Tariffs are quite simply taxes
on goods imported from other countries which are charged at
the port of entry. Despite what some people are
saying, foreign countries do not pay these taxes.
The companies or individuals bringing the goods into the
country pay the tax to the US government.
Tariffs have often been used to push a country citizens to buy
domestically manufactured goods rather than imported goods.
They're sometimes used in developing nations to protect
fledgling industries until they grow and can compete with more
advanced competitors from more advanced nations.
During the event, Trump confirmed his previously
announced tariffs on specific goods, including 25% on steel,
aluminium and foreign made cars. The Wall Street consensus in the
lead up to the event had been that the average tariff rate
would rise to between 10 and 20%, with most analysts in the
bottom half of that range. The effective rate announced is
somewhere between 25% and 30%, so much higher than was expected
and and up from an average of around 2% before Trump took
office. the US is now one of the highest tariff nations in the
world, or at least in the developed world.
It's still not clear if Trump plans on maintaining these
tariffs or if they're a bargaining tool.
If the US stuck with these rates, it would do immense
damage to the economy. On Thursday, the S&P 500 fell by
almost 5%, with the tech heavy NASDAQ down 6%.
Dell fell 19%. Apple fell 9%.
Retail stocks were down 11% or more.
Apparel makers like Ralph Lauren, Nike and Lululemon were
down between 10 and 16%. The banks were down around 10%,
too. It wasn't just stocks, either.
The dollar fell 2%. Treasury yields had a big drop
and oil prices fell too. I'm recording this on Friday
morning and the S&P 500 is already down more than 4%.
And this is after yesterday's 5% decline.
So we can possibly expect more chaos in markets today.
The drop in stocks, interest rates, oil, and the dollar
reflected lower growth expectations for the United
States economy, not the prosperity that Trump was
pitching. Let's look at how Trump's tariff
formula worked, who was hit hardest by these announcements,
what retaliation might look like, the economic effects, and
why Trump's hero William McKinley, who oversaw one of the
biggest tariff bills in U.S. history, eventually abandoned
his own tariff strategy straight after the White House
presentation. The journalist James Sarawwicki
quickly pointed out that there was something very strange about
the supposed tariff rates that foreign countries were charging
the United States. the US has a trade agreement with South
Korea, he pointed out, so South Korea is not charging a 50%
tariff on American goods, nor is Europe charging a 39% tariff.
With some quick analysis, he worked out that the
administration hadn't done the calculation that they claim to
have done. Instead, for every country, they
just took the US trade deficit with that country and divided it
by the countries exports to the United States.
When called out on this, the White House defended itself by
publishing what might at first look like a complicated
mathematical formula for backing out the tariff rates being
charged by other countries. If you dig into the formula,
which one commentator described as being woke because it
included Greek symbols, you can see that they threw in two Greek
symbols but then selected values for them that cancel out.
So Sarah Wiki was right, the formula is simply the trade
deficit it for the US with a particular country divided by
the total imports from that country.
There were some other strange things that people quickly
noticed, like an unusual list of countries.
You'll note that the 4th country on Trump's list is Taiwan, which
the US doesn't recognize as a country.
In order to keep China happy, the country list, which included
tiny islands and overseas territories, LED online
commentators to suggest that the White House had possibly used an
AI to come up with their trade policy rather than doing any
real trade analysis. The whole televised event felt
more like a game show than a serious trade policy
announcement. And in my opinion, they should
have leaned into the game show vibe a bit more by possibly
inviting the leaders or at least representatives from the foreign
nations being tariffed to attend so that the cameras could zoom
in on their faces to catch their expressions as the tariff rates
were announced. Doing this would have made
better TV, but it also could have prevented the embarrassment
of announcing tariffs on places like Herd Island and the
McDonald Islands, which are a two week boat ride from
Australia and are covered in glaciers and only inhabited by
Penguins. The Penguins were hit with a 10%
tariff for looting, pillaging, and plundering the United
States. When the Penguins that live on
these islands turned up for the televised event, it might have
given the White House a chance to take them off the list.
If I was organizing the event, I would have left them on anyhow
based on my long standing belief that Penguins make great TV.
If this YouTube channel gets big enough I'll eventually add a
Penguin as a Co host. I'm planning on buying a walk in
refrigerator to store it in when I'm not recording.
I haven't really looked into it, but I presume that's how you
keep Penguins. The Penguins got off easy.
However, the FT reports that Lesotho, a tiny landlocked
African Kingdom with AGDP per capita of under $1000 per year,
was hit much harder. Denim manufacturing makes up
more than 90% of the manufacturing jobs in Lesotho,
and the country had a $235,000,000 trade surplus with
the United States, mostly from selling cloth to American brands
like Levi's and Wrangler. They were hit with a 50% tariff.
The Falkland Islands exported $27 million worth of goods to
the United States. Their biggest export is
something called the Patagonian toothfish, which is not native
to the United States. The Falkland Islands, where less
than 4000 people live, only imported goods valued at
$329,000, one third of which was a single piece of broadcasting
equipment. They were hit with a 41% tariff
as punishment for the unrelenting economic warfare
that they've been waging against the United States.
Fortunately for them, they bought that piece of
broadcasting equipment last year or the tariffs would have been
even higher. It won't surprise you that the
Falkland Islands don't have any tariffs in place on US goods.
It's a bit pointless doing that when you have a population of
3700 people and you probably feel lucky to be able to get any
goods shipped to you to begin with.
Madagascar, an even poorer nation with AGDP per capita of
$506.00 per year, doesn't buy much from the United States
either. You can only stretch those 506
dollars so far, but they have the nerve to export vanilla
beans which only grow in tropical countries and need to
be hand pollinated and picked to the United States.
They were hit with a 47% tariff. So you can expect to see a lot
of growth in America's domestic vanilla growing industry and
denim weaving industry as those jobs which pay as much as $500
per year are brought back on shore.
The fact that the calculation used to determine the tariffs is
so strange, combined with the odd list of countries where it
appears they used the ISO 3166 country codes without checking
if each code represented an actual country, and then
stripping out Russia, Cuba, and North Korea LED online
commentators to suggest that the analysis had been done using
ChatGPT. Just to be sure, I asked ChatGPT
how to calculate reciprocal tariffs for the US government
and it delivered a much more coherent plan than the official
one that was announced. So I don't think ChatGPT can be
blamed for this. Maybe they used Grok.
One positive take away from the announcement was the relatively
soft treatment of Canada and Mexico, where a lot of goods
that fall under the USMCA agreement were made exempt from
the tariffs. This possibly shows that the US
learned one of the big lessons of Brexit, which was the
importance of trade with a country's nearest neighbors.
Countries typically trade most with their neighboring
countries, and when you break those supply chains, they're
very difficult to replace. Exempting pharmaceuticals,
lumber, copper, semiconductors, and critical minerals was wise
too, but something may be coming on that front soon.
Look, it's easy to make fun of tariffs on Penguins.
In fact, I might start an entire second channel to only do that.
But we should consider the other side of the argument, which is
that while the calculation might seem a bit bizarre and the
analysis might look a little bit rushed, the announced trade
measures do target China and it's neighboring countries,
which are used as transshipping destinations to work around US
tariffs on China. At the White House event, before
announcing his tariffs, Trump listed his grievances and said
that he had believed in tariffs as a remedy for trade imbalances
for decades. I covered some of this in a
prior video. But while the hyper
globalization that began in the 1990s made the world better for
most people, blue collar workers in developed countries lost out
when manufacturing work moved abroad to countries where labor
was cheap. While global inequality fell,
inequality within developed countries grew.
As my friend Manoj argued in his book, there was a huge labor
supply shock, and laborers in developed countries lost out.
On top of all of this, free trade economies began to worry
that surplus economies like China, Germany, and Japan were
engaging in unfair competition by subsidizing their
manufacturing sectors, often at the expense of their household
sectors. The suppressed wages in these
countries meant that workers produced more goods than they
could afford to buy and exported the surplus.
This had the effect, according to Pettis and Klein, of passing
on the costs of these subsidies to deficit at countries like the
United States, the UK, India and France.
Western economies began to see it as a problem that China had
both the highest manufacturing share of GDP and the lowest
consumption share of GDP in the world.
By agreeing to absorb China's excess production deficit,
economies were allowing their most aggressive trade partner to
set their trade policies for them.
Trump is right too that countries can hide economic
interference with non tariff distortions which are hard to
spot. They can subsidized exporters by
providing cheap energy and low interest rate loans to favorite
businesses from state owned energy companies and banks.
They can manipulate their currency lower, benefiting
exporting businesses at the expense of importing businesses
and consumers. They can over invest in
infrastructure like railways, roads and ports which helps the
business sector at the expense of the household sector too.
Repressive labor laws, restrictions on worker mobility,
and low penalties for pollution additionally help the
manufacturing sector at the expense of the household sector.
In China, for example, industrial zoned land is an
order of magnitude cheaper than residential land, and this is
another transfer from the household sector to the business
sector. When all of these policies are
combined, there might be huge transfers from households to
businesses which act as subsidies while also keeping
consumption low so that an entire economy is geared up to
export goods without importing anything from the rest of the
world. In a closed economy, this would
naturally rebalance as businesses would be forced to
either raise wages to increase consumption, or they would have
to reduce production due to a lack of demand.
In a globalized trading system, the surplus production can be
exported. Running an economy this way
isn't necessarily a winning long term strategy.
It can be used to kick start a dead economy, but in the long
run a good economy is one that exports goods in order to get
foreign exchange so that they can buy foreign goods that they
either need or desire. The problem for export driven
economies like this is that they usually struggle to rebalance
from being export driven to consuming the goods that they
produce. From a free market perspective,
countries should be happy to import goods from countries who
are subsidizing their production.
Milton Friedman described export subsidies as a form of foreign
philanthropy. Those who argue for fair trade
rather than free trade say that persistent subsidized imports
can eventually displace domestic production of often
strategically important goods. They worry that these subsidies
could bankrupt domestic producers, and that this becomes
a a big problem for strategically important goods
like steel, semiconductors, airplanes and ships.
Fair traders will point out how car factories can be retooled to
build weapons in time of war, but that you can't do this if
neither the factories nor the expertise to run them exist
anymore. Trump is arguing that tariffs on
America's trading partners are necessary to protect US
manufacturing and the American worker at a time when US
manufacturing jobs have dropped since their peak in the late
1970s. If you agree, based on that
logic, that something needs to be done to rebalance global
trade or even just American trade, And despite all of the
disagreements, it would appear that both the right and left in
American politics do seem to feel this way, with Trump
seeming to believe more in tariffs and Biden more in
subsidies. It brings us to the question of
why the tariffs are being ramped up so aggressively.
And additionally, is it necessary to fight with your
closest trading partners? Many of who whom are in the same
position as you rather than working with them.
If the goal was to bring factories back to the United
States, most economists argue that a more gradual approach to
applying tariffs would work better.
Some of the worst hit stocks since the announcement were
firms like Apple and Nike. These are very successful
American firms who do all of the high value added design and
marketing work in the United States and outsource the less
profitable manufacturing work. Apple has been trying to
diversify their supply chains in recent years to be less reliant
on China, but they can't reasonably move all of their
factories back to the United States in the next few months.
And so the tariffs will just push up the price of their
products while giving a cost advantage to the Korean owned
Samsung who get hit with a 25% tariff instead of the 65% or
higher tariff that Apple will suffer.
And that depends on if the 25% Venezuelan oil buyers tariff is
also being applied. According to Morgan Stanley,
Apple take the biggest hit in terms of tariffs due to their
manufacturing exposure to China. James Scott from King's College
London argues that a huge problem with Trump's focus on
bringing manufacturing back is that manufacturing has changed a
lot in recent decades. He says that the model of
manufacturing that underpins Trump's approach hasn't existed
for the best part of 40 years, and it's not coming back either.
The loss of manufacturing jobs is as much about increased
automation as it is about offshoring. 100 years ago, most
workers were employed as agricultural laborers, but
increased farm productivity, driven by mechanization, put an
end to that. The same, he argues, has
happened in manufacturing, and reversing this trend is no more
likely than great swathes of workers returning to working in
the fields. Some are arguing that these
massive tariffs are simply a negotiation tactic.
The Trump supporting hedge fund manager Bill Aikman tweeted
yesterday that sometimes the best strategy in a negotiation
is convincing the other side that you're crazy.
Treasury Secretary Scott Percent told Republican House lawmakers
the day before the announcement, hopefully not as an April Fools
joke, that the reciprocal tariffs represent a cap of the
highest US tariff level that countries will face and could go
down if they meet the administrations demands.
It's not clear that this is true, as if the plan was to
negotiate them down or come up with something that doesn't harm
America's largest businesses. The fact that each country is
getting a different deal makes it extremely difficult to
negotiate one by one with each country in a meaningful way over
a few days. I don't see how genuine
negotiations could be done at the speed needed to avoid
harming America's best businesses.
On top of this, due to the wacky calculation which is based
entirely on trade surpluses with the United States and nothing
else, there's nothing obvious for many of America's trade
partners to offer. What the Trump administration is
demanding is the country should buy the exact same amount from
America as America buys from them.
This makes no sense whatsoever. If a business has a relationship
with a supplier, that supplier doesn't also need to be a
customer of that business. Madagascar is a good example.
While Americans consume over 1000 tons of vanilla per year,
the impoverished residents of Madagascar have almost no need
for US exports. There's not much that they can
do to close that trade gap, and they're not taking advantage of
Americans by selling them a product that Americans want to
buy. Countries like Canada and Mexico
may sell more to America than they buy from it, but they run
trade deficits with other countries and have mostly
balanced trade. The idea that any trade America
does is cheating America makes absolutely no sense.
The trade negotiations are further muddled by the fact that
Trump claims that they're driven by different factors.
The earlier tariffs on China, Mexico, and Canada were placed
in part he claimed, to stop fentanyl from flowing into the
United States. If those countries were able to
meet Trump's demands on this front, would he then drop the
tariffs? It's possible that he simply
sees tariffs as a good way to raise revenue, and if that's the
case, he wouldn't want to come to an agreement with those
countries as he would need to raise revenue somewhere else.
Then in a campaign speech last summer, JD Vance told the
audience that a million cheap knock off toasters aren't worth
the price of a single American manufacturing job.
Well, there's obvious hyperbole in that statement.
Vance and Trump do seem to believe that America would be
better off if it manufactured more and imported less, and
Americans would be better off working in toaster factories
than doing whatever job they have now.
Now, most Americans don't actually want these factory jobs
that JD Vance is so excited about, either.
There were 8 million unfilled jobs in the United States as of
the last count, according to the Department of Labor, and most
Americans would rather buy an affordable imported toaster than
have the opportunity to make one. the US economy has been on
a run that is the envy of the rest of the world for the last
few decades. Almost every other economy in
the world stagnated in the wake of the credit crunch, while
America led the world in innovation and R&D, not
producing toasters. One of the problems with
protectionism is that it reduces competition and could damage the
US economy if American companies no longer felt the need to
innovate. Protectionism is one of the the
things blamed for destroying the Argentine economy.
While Americans might be jealous of Germany's manufacturing
output, they may not want to find themselves in the position
of the German worker. Today I'll put a link in the
description to a really interesting interview on the
Hidden Forces podcast, where Wolfgang Munchao explained how
Germany fell behind the United States 25 years ago by focusing
on analog rather than digital goods, entirely missing out on
the digital revolution. Other problems with these
tariffs is that they'll be extremely difficult to manage.
According to the Wall Street Journal, 53% of the cars
currently sold in the United States are built in the United
States, and the other 47% will be hit with a 25% tariff.
Unfortunately though, it's not that easy as even the most
American of vehicles, like the Ford F-150, are made from
thousands of parts that come from over 24 different
countries. The individual parts will face
the tariffs that have been placed on their countries of
origin. For companies to move production
to the US would be extremely expensive, and that cost would
have to be passed on to consumers too.
Checking every product that enters a country will be
incredibly resource intensive and could bring trade to a
grinding halt. In his press conference, Trump
threatened to jail people for 10 years if they try to claim the
wrong tariff rate. But it's not always easy to
decide on a product's country of origin.
Often the raw materials come from 1 country and the goods are
assembled in another. William McKinley is Trump's
purported inspiration. McKinley called himself a tariff
man standing on a tariff platform when he ran for
election. But in McKinley second term, he
abandoned that platform and eventually spoke out against
tariffs. The reason McKinley implemented
tariffs was that after the Civil War, America was collecting more
tax than the federal government could spend.
McKinley wanted to reduce that revenue, but worried that if he
cut tariffs he would invite a flood of imports and possibly
increase the amount of taxes collected.
He instead raised the average duty on imports to almost 50% to
reduce the amount of foreign goods being brought in, which he
then figured would reduce government revenues, solving his
problem. He did like the idea that
tariffs would protect American manufacturing, too, which it
did. And while the tariff cut
government revenues as expected, it was not well received by
Americans who suffered high inflation.
Mckinley's Republican Party lost its majority in the House during
the next election. In his second term, McKinley
advocated cutting tariffs as they were no longer needed for
revenue or protection. And cutting them, he said, would
encourage America's trade partners to reciprocate, opening
up global markets for American goods.
He never got to implement that plan though, as the day after he
gave that speech he was assassinated and Teddy Roosevelt
became president. It's very difficult to know how
Trump's tariff plan will work out, as we don't really know
what the plan even is. If it's a negotiating strategy,
it might not be a great one. Since Trump took office and has
been announcing and cancelling tariffs, both consumer and
business confidence have been in decline.
When consumers are worried, they spend less, slowing the economy.
And when businesses don't know what to expect next, they take a
wait and see approach and don't make any big investments, which
can hit growth. A lot depends on how America's
trade partners respond. This morning, China announced
duties of 34% on all US imports, moving the world closer to a
full blown trade war. The FT reports that European
leaders are worried that China will divert exports from America
to Europe, meaning that they'll have to erect trade barriers too
to defend their markets. Thanks for tuning into this
week's podcast. Do share it with a friend if you
think they'd find it interesting, as that's the best
way for podcasts to grow by word of mouth.
Have a great week and talk to you again soon.
Bye.