As trade wars roil markets, what do retaliatory tariffs accomplish?
This week the tariff wars have been heating up – and the stock market has been going down.
The United States imposed a 25% levy on steel and aluminum imports Wednesday, implementing a February order by President Donald Trump. The European Union and Canada, America’s largest steel supplier, responded quickly by raising tariffs of their own. China had already retaliated Monday against other new U.S. tariffs, with higher fees on American farm products.
It’s classic trade-war behavior. Tariffs act like taxes on imports, making it more expensive to purchase products. Economies on all sides of the transactions can end up being hurt financially, but the risks may be highest for the nation escalating import taxes the most. Wall Street’s S&P 500 stock index is down 10.1% from its Feb. 19 peak, while the Dow Jones global index of non-U.S. stocks is down 1.3% in that time.
Why We Wrote This
When President Donald Trump hikes tariffs, should other nations fight back? That’s what many are doing, with retaliatory moves designed to put pressure back on the U.S. Australia is one country choosing a different path.
President Trump has several stated goals for his spate of tariff hikes: to strengthen U.S. manufacturing, to reduce the trade deficit, and to push other nations to do more to halt illegal immigration and the cross-border flow of fentanyl. He also views his strategy as a revenue-generator for the federal government.
But the aggressive tax increases denote a sharp shift in America’s relationships with other countries, which for 80 years have been aimed at supporting free and open trade. The about-face, economists and trade experts say, has the potential to transform international trade, reducing global connections while creating incentives to produce more goods in the U.S.
What are the goals of retaliatory tariffs?
Retaliatory tariffs are just that: tariffs imposed by a country in response to tariffs imposed on their products. And the aim is generally to force nations to negotiate.
This is not a new strategy, points out Frances Burwell, a distinguished fellow at the Atlantic Council. “This has been a way of responding in trade talks, trade disputes,” she says. “The objective is almost always to get the other party to the bargaining table.”
Already since he took office in January, there are signs that Mr. Trump’s position isn’t set in stone. In early February, Mr. Trump announced 25% tariffs on all imports from Canada and Mexico. These were paused after outcries from both countries, and then implemented March 4 – with a reprieve until April 2 for certain goods, notably cars and car parts. The U.S. also levied new tariffs on China, 10% across the board in early February, which was doubled to 20% a month later.
In response to this week’s U.S. steel and aluminum tariffs, the EU will implement countermeasures designed to be equal in value – tariffs on U.S. exports totaling about $28 billion. EU President Ursula von der Leyen said this escalation is regrettable, and “that in a world fraught with geopolitical and economic uncertainties, it is not in our common interest to burden our economies with tariffs. We are ready to engage in meaningful dialogue.”
The EU response might also have a political motive, according to Dr. Burwell: a show of unity among EU nations.
“Trump has been very, very critical of the European Union itself as an institution,” she says. In addition to hopes that retaliatory tariffs will encourage the U.S. to reengage in negotiations, the European Commission seeks recognition of the EU as a primary trade authority, rather than its member states.
U.S.-levied tariffs have been relatively low in recent history: on average, 2.5% last year. The nonpartisan, nonprofit Tax Foundation projects that will more than triple this year to 8.4%, the highest average since 1946 (10%). Tariffs in the US peaked in the late 1800s, before the federal government shifted its primary revenue source to taxes on citizens as opposed to imports.
What are the benefits or risks?
The White House says the president is wielding tariffs to counter “the extraordinary threat posed by illegal aliens and drugs,” invoking the International Emergency Economic Powers Act. Tariffs are a bargaining chip in Mr. Trump’s war on unauthorized immigration. These economic sanctions are intended to hurt – enough to force America’s neighbors to take action against the flow of migrants into the United States.
In recent decades, many Americans grew worried about the outward flow of manufacturing to countries like China and Mexico, with lower-paid workers. Taxes on imports can be a way to discourage consumers from choosing foreign-made products.
But by and large, economists say tariffs, including retaliatory ones, lead to higher prices, fewer consumer choices, and job losses if targeted sectors are hit hard enough. Tariffs can also discourage innovation by buffering industries from global competition.
Based on that logic, some nations resist the idea that retaliation should be an automatic response. Australia this week said it will not impose tariffs on the United States, calling escalation of trade tensions “a form of economic self-harm.”
That harm doesn’t have to be inevitable, says Andrew Greenland, a research economist at the National Bureau of Economic Research. If nations carefully target their retaliation, he says, they can avoid self-harm.
“If you’re not putting blanket tariffs down like the U.S. has been doing – you could strategically put tariffs on things that won’t hurt your own economy,” he says.
For example, in 2018, European countries retaliated against an earlier wave of Trump tariffs by targeting U.S. alcohol exports like bourbon. Dr. Greenland said that strategy worked in Europe’s favor because U.S. whiskey wasn’t indispensable – consumers could purchase alternatives like Irish whiskey – and they tended to target Republican states like Kentucky. That’s a strategy these countries may be looking to repeat.
“When Canada was listing their retaliatory tariffs – and the EU is doing the same thing now – they’re looking at Republican strongholds,” says Dr. Greenland. “They’re looking at places that are politically sensitive, and where political pressure might be enough to convince stakeholders in those states to reach out to the president and try and shift his perception.”
What’s the recent history of retaliatory tariffs?
Dr. Burwell points to the sweeping steel and aluminum tariffs President Trump implemented during his first term. The EU responded with retaliatory tariffs. When Joe Biden became president, his administration reached an agreement to let the EU import a certain amount of steel and aluminum duty-free. In exchange, the EU suspended their own tariffs.
“So one can say that perhaps the retaliation worked,” says Dr. Burwell of the Atlantic Council. “But you’d also have to take into account that the Biden administration came into office determined to repair the relationship with Europe.”
America’s current trade war with China goes back to 2017, when the U.S. International Trade Commission found America’s washing machine and solar power industries had been injured by cheaper imports, opening the door to “global safeguard” restrictions by then-President Trump. Over the next two years, the U.S. levied tariffs on $350 billion in Chinese imports. China retaliated with steep taxes on $100 billion in American products, which included a 178.6% tariff on sorghum.
The countries agreed to stop volleying escalations in 2020, but tariffs remained in place through the Biden administration.
Trade relationships may change longer term if the cost of doing business is too great. In today’s global marketplace, countries could increasingly shift to new markets to avoid dealing with the U.S., notes Dr. Greenland.
“There’s less bite when it comes to the U.S. threatening tariffs on Australia if they can turn around and sell all their stuff to China,” says Dr. Greenland.
