One of the more predictable outcomes of this election is that I am now running into analyses suggesting that tariffs are a growth-enhancing policy tool. One of the ugly realities of financial/economic commentary is that a lot of it is the result of starting from the desired conclusions, and then working backwards to find reasons why the conclusions are correct. An analyst that is pro-Trump needs to discover why tariffs are great policy. (The advantage of not publishing forecasts and not having a policy agenda is that I am not continuously putting out articles explaining why my forecast is correct, and the data/markets are wrong. The disadvantage of this policy is that it is harder to come up with new content.)
One of the Big Ideas floated by Trump is that income taxes can be replaced by tariffs, which is what excites some of the commentators. I do not see the numbers even getting close to that, even if we put aside the side effects of tariffs on the economy.
The chart above shows the share of goods and services imports as a percentage of U.S. GDP. At under 15% of GDP, a 10% across-the-board tariff would represent 1.5% of GDP under the assumption that import share is static — i.e., taxing imports more does not discourage them. Although 1.5% of GDP is not a piddling amount of money, it is not enough to replace income taxes.
We need to get up to a 20% average tariff to get the somewhat exciting level of 3% of GDP. By contrast, total current receipts of the Federal U.S. government was 17% of GDP in Fiscal Year 2024, with personal income taxes representing about half of that (link to Treasury sire where I got those numbers). Trump was floating a 20% tariff rate (with China getting hit even harder), and I doubt that level which would be politically sustainable. In any event, a 20% tariff that magically hits all imports without holes and that does not reduce imports could at best finance an income tax cut, not an elimination.
Returning to my comment on political sustainability, a universal tariff that I use in this calculation is hitting literally everybody other than non-Americans, and that is going to annoy them (particularly major trade partners that have free trade agreements with the United States…). The ability of Trump to deal with universal condemnation from world leaders is unclear. Although I see an across-the-board tariff at a mild rate as possible, my expectation is that tariffs would be targeted and aimed at Trump’s perceived enemies — and mainly used as a club to generate concessions elsewhere.
Economic Effects?
An across-the-board tariff would raise the price level, making it a rather remarkable policy choice immediately after an election where the incumbents got thumped for a surge in the price level.
If actual tariff policy ends up being a handful of effectively random changes that mainly hit a few trade partners, I do not think anyone would be able to find any measurable effect on the economy. If Trump does sustain some deep across-the-board tariff hikes, trade partners might retaliate with their own counter-tariffs. There seems to be a desire to replay the 1930s in some quarters, so why not trade wars? That said, I do not think that retaliation would be immediate — foreigners might bet on Trump not being able to follow a coherent policy stance for more than a month at a time.
Although there is a history of countries attempting to build up productive capacity behind trade barriers — e.g., The National Policy of post-Confederation Canada — this only works if firms believe the policy will be sustained. A tariff policy that is wildly unpopular among elite centrist economists that is being enacted by a lame duck President whose administration is going to be a disorganised mess is not something you want to bet a lot of fixed investment on. One may note the difficulty Trump has to find a pro-tariff Treasury Secretary. In other words, if the policy looks politically unsustainable, it will not have a lot of second-order economic effects.
What About Spending Cuts?
One way towards abolition of income taxes is to come up to Quebec and buy some wacky tabacky from one of the government outlets and imagine that spending cuts would be the other leg of the policy mix. (Although income tax cuts do not need to be “paid for,” they are going to be stimulative and would require counter-vailing revenue increases and/or spending cuts to avoid another inflationary spike.)
The problem with spending cuts is that the welfare state was slashed already, and the remaining programmes are popular. The “efficiency department’s” big idea is to cut “waste, fraud, and abuse,” which is a stupid person’s idea of a smart proposal to reduce government expenditures. The only place where anything other than trivial amount of savings could be found is in military spending (the U.S. military is not even capable of clearing an audit), but good luck getting the Republican Party to make a meaningful dent in the Pentagon’s budget.
Realistically, they might blindly fire government workers to reduce spending. However, this is not enough to make up the difference between tariff and income tax revenue, and is just going to cause misery and the destruction of state capacity (arguably the intention of such a move).
Liz Trussification of the U.S.
One entirely plausible scenario is that Trump re-enacts the Liz Truss meltdown by making a massive income tax cut matched by a fairly chunky universal tariff increase that was supposed to “pay for” the tax cut. A loosening of fiscal policy coupled with raising the price level via tariffs will be wonderful for resurrecting “the bond vigilantes” in economic/financial commentary. Oh, joy.
Concluding Remarks
Mechanically, tariffs are not going to replace income taxes any time soon. The effects of tariffs would be limited in the near run, since there is no sign that they are politically sustainable.
Appendix: The Rise of Bluesky
The exodus from Twitter by the economics/financial posters towards Bluesky over the past week was impressive. This is good news for my readers — I again have a platform that is useful to aggregate links to provide ideas for my own writing. (Most of economic blogging and commentary is responding to others’ articles.) Twitter actively suppressed off-site links, making it entirely useless for that role.
(My profile: https://bsky.app/profile/brianromanchuk.bsky.social.)
One interesting aspect of the migration is how quickly a network is rebuilt if there is a critical mass of content producers who move at the same time. As such, I do not see a need to worry whether Bluesky is perfect or not — people will jump ship if there is a better alternative in sight.
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