Friends, family, students, colleagues, random acquaintances, delivery men – even my Amtrak conductor (who caught me reading the Financial Times) – suddenly, everyone seems eager to know what I think about tariffs. (As though I were an expert in trade policy.…which I am not.) The topic has been on the boil for a while, but the multi-trillion dollar stock market meltdown of the past week has raised the level of urgency. So far, I’ve hedged my responses, saying things like “it’s too soon to tell” or “it’s a complex issue.” I need a better answer — which this column will begin to offer.
In thinking about tariffs, I want to resist the impulse to go along with two tendencies I see playing out in the media commentary: (1) a tendency to react to and echo the latest headlines, and especially the political pronouncements, which are often not very thoughtful; and (2) a readiness to accept conventional wisdom and recite “lessons” of economic mythistory which may no longer be relevant (see below).
When it comes to tariff policies, let us start with the fact that there are things we know and things we don’t know – or better said, things about which there is general agreement and things that generate intense disagreement. Certainties, and Uncertainties. It is useful to distinguish them.
The Uncertainties
Tariff policies come with huge Uncertainties:
- Will higher tariffs drive inflation, or not?,
- Will tariffs boost U.S. manufacturing, or not?
- Will “Liberation Day” lead to a recession, or not?,
- Will higher tariffs sink the Dollar?
- Will they crash the bond market?
- Does the President have the legal authority to set tariff rates without Congressional approval?
- Is the current policy transactional or ideological? Are tariffs being used as bargaining chips, or will they be permanent?
- Is the existing global trade framework truly “unfair” to Americans?
- Is “reciprocity” a meaningful principle for setting tariff rates?
- Will tariffs permanently damage America’s standing in the world?
Open questions all, and all controversial. On the other hand, not everything about tariffs is in dispute. Let’s start with what we know.
The Certainties
What can we say about tariffs that can be accepted as true by honest observers on all sides? What are the Known Knowns that frame this complex and confusing topic?
I think there are at least five broad Certainties about tariffs that we can agree upon, which form the context for deeper understanding of the policy and its consequences.
In brief:
- The U.S. was a Protectionist High-Tariff nation for most of its history – from the Revolutionary War until the 1940s.
- After World War 2, America’s high tariffs largely “disappeared” – replaced by a “free trade” model.
- America deliberately used this Low-Tariff regime to help its trading partners rebuild their economies after the war – a sort of parallel to the Marshall Plan. This largesse has been extended to friendly emerging economies (e.g., Taiwan, Korea) in recent decades.
- Today’s global tariff framework is distinctly asymmetric. The U.S. has had essentially the lowest tariffs in the world (until now). Our major trading partners in Europe and Asia have tariffed U.S. imports at higher rates.
- Tariffs are only one part – and not the largest or most important part – of the system of trade barriers and distortions erected by many of our trading partners.
1. Tariffs Were Once The Central Economic Policy Question in the U.S.
The Tariff Question dominated American politics for a century and a half, from George Washington to Franklin Roosevelt.
The first major piece of legislation ever passed by Congress after the ratification of the Constitution was the Tariff of 1789. Its objectives were (1) to protect “infant” American manufacturers from foreign competition, and (2) to fund the Federal government and support its debt. Tariffs were a plank in Alexander Hamilton’s program to create a sound financial structure for the new Republic.
Tariff policy was contentious from the start. It drove the ideological divide that split the body politic into opposing parties in the early 1800’s, and aggravated sectional conflicts. Northern manufacturers favored high tariffs; Southern planters were generally opposed. Tariffs triggered the “Nullification Crisis” of 1832, when South Carolina declared them unconstitutional and unenforceable — an extreme assertion of states rights that nearly led to a military confrontation with President Andrew Jackson and the federal government. After the Civil War, the pro-tariff forces held power for most of the next 70 years and the U.S. developed a strongly protectionist regime based on high tariff rates. From 1789 to 1940, there were 25 major tariff laws passed in the United States.
It was not just American manufacturers who benefited. The federal government’s “business model” was critically dependent on tariff revenues. Until the passage of the first income tax in 1914, tariffs generated 50% to 95% of federal revenue. As late as 1930, tariff proceeds were still larger ($587 million) than revenues from the income tax ($476 million).
The last major tariff increase was the Smoot-Hawley Act of 1930. Passed in the face of a vast economic downturn, and “despite a petition from more than 1,000 economists” urging President Hoover to veto the legislation, “Smoot-Hawley” became a byword for rank economic ignorance.
“It prompted retaliation from foreign governments, and many overseas banks began to fail. Within two years some two dozen countries adopted similar “beggar-thy-neighbour” duties, making worse an already beleaguered world economy and reducing global trade. U.S. imports from and exports to Europe fell by some two-thirds between 1929 and 1932.”
The Act is conventionally regarded as one of the causes of the Depression itself – “the Smoot-Hawley Tariff collapsed global trade and helped transform the nascent recession into a decade-long global depression” – and is routinely invoked as a cautionary tale against the folly of protectionism.
2. Tariffs “Disappeared” as Political Issue for 80 years
The Income Tax, the Great Depression, and the New Deal extinguished the tariff debate. The new tax made tariffs less necessary. The Depression and the collapse of world trade discredited tariff policy generally. And the election of 1932 brought the anti-tariff party back into power, and led to the passage of the Reciprocal Trade Agreements Act (RTAA) in 1934, which
“gave the president power to negotiate bilateral, reciprocal trade agreements with other countries and enabled Roosevelt to liberalize American trade policy around the globe. American duties on foreign products declined from an average of 46% in 1934 to 12% by 1962. Between 1934 and 1945, the United States signed 32 reciprocal trade agreements with 27 countries.”
By 1940, tariffs contributed just 5% of federal revenue. Five years later, the figure was less than 1%. Tariffs had become fiscally irrelevant.
U.S. tariff rates declined from 25-45% down to single digit percentages.
The principle of reciprocity – embodied in the RTAA – was used to lever down trade barriers. Dozens of reciprocal tariff reduction agreements were negotiated with trading partners in Europe and Latin America, and the RTAA program provided the model for the General Agreement on Tariffs and Trade (GATT), the agreement signed by 23 countries in 1947 that became the framework for multilateral trade liberalization in the post-WWII era.
By the modern era, trade-weighted tariff rates were less than 2%. The Tariff controversy essentially disappeared from the broader public policy scene for the next 80 years.
The significance of this is twofold.
First, few today among the U.S. business and political elite have had any real first-hand experience with a broad-based, 19th-century-style high-tariff regime. Forecasts of the possible consequences of the new tariffs today (the 2025 “Liberation Day” program) – regardless of the political leanings of those making the forecasts – are often based on remote historical analogies, going back to the late 19th and early 20th centuries – the last time that a similar tariff system was in place. We cannot be certain what the true economic effect of tariffs in the earlier high-tariff era may have been. Data is not available to fully assess the impact on inflation, growth, or employment. Modern price indexes were not really available until the comprehensive revision of the Consumer Price Index in 1940. GDP as a measure of growth came only in 1934. “Nonfarm payrolls” was first published in 1936. Even “the precise percentage increase in tariff levels [in earlier eras] is difficult and a subject of debate among economists.”
This means that economists are on somewhat shaky ground in terms of their ability to model the consequences of such a policy today. Central banks can draw on decades of experience actually implementing various monetary policy measures. Compared to this, strong tariff policies are relatively untested in the modern economy.
The second and related implication is that we cannot be sure that past experience with tariffs, even if we understood it fully, would provide a reliable guide for evaluating tariff proposals today. The global economy of 2025 is vastly different from the economy of 1896 or 1930. Manufacturing today is not the same as it was in the era of Andrew Carnegie and Henry Ford.
This is another reason to be cautious about forecasting tariff impacts. In many respects, the concept of tariffs we have inherited from the McKinley and Smoot-Hawley days could be as out of date as the gold standard. We would not build monetary policy today on a foundation from the World War I era financial system, and it may well be that tariffs will affect our high-tech, software-and-services economy rather differently than the metal-bending heavy-industry world of the 1920s.
3. The Low-Tariff Regime Was A ‘Marshall Plan’ for Trade
“The United States offers its trading partners more favorable terms than it often gets in return. As a proponent of free markets, the United States has long been more open to trade than many countries globally.” – The New York Times
After World War II, the United States effectively adopted a Low-Tariff regime as a way of opening its markets to trading partners who had been devastated by the war, and needed economic assistance to build back their industrial infrastructures. America had been running trade surpluses since the end of the Civil War, and surpluses continued until 1970, so there was slack in the trade system for the U.S. to provide an economic subsidy of this sort. The U.S. was able to “export” this surplus to help its trading partners, in part by keeping our tariffs much lower than tariffs elsewhere.
This is a crucial point, often overlooked.
“In the immediate postwar period the United States was willing and able to bear most of the costs of establishing a liberal international economic order. The other major industrial countries were plagued by balance-of-payments problems, and they rationed their meager supplies of dollars to maximize their reconstruction efforts. Consequently, the tariff concessions they made in the early multilateral negotiations were not very meaningful in terms of increasing U.S. exports. U.S. negotiators were fully aware of this point, and they also offered greater tariff concessions than they received, even on the basis of the usual measures of reciprocity. In effect, the United States redistributed to other countries part of the economic surplus reaped from its usually favorable export opportunities to enable those countries to support the establishment of an open trading regime.” – National Bureau of Economic Research report (1984)
These “subsidies” were not purely altruistic. They benefited the U.S. by tying our trading partners to the American markets, bolstering the reserve currency status of the U.S. dollar, and strengthening national security arrangements. Low tariffs and open markets became the “sinews of empire” – underpinning the broad structure of American economic and political hegemony of the post-War era.
The “Marshall Plan” effect of low tariffs was large. By one estimate, the value of the trade deficit that the U.S. ran in the 1950s added $7 billion to global liquidity. For comparison, the actual Marshall Plan provided about $13 Bn in aid to 18 countries.
[I believe this understates the matter. Intuitively, I think the tariff and trade subsidy likely far surpassed in dollar terms the value of the Marshall Plan itself.]
4. The U.S. Had The Lowest Tariffs In the World (Until Now)
The global Tariff system was thus asymmetrical. The U.S. has had (until Liberation Day) generally the lowest tariffs in the global trading economy. As noted above, this policy began as a deliberate subsidy. The gap between U.S. rates and those elsewhere was initially large.
Over time, many of these tariff rates came down, especially after the GATT was replaced by the World Trade Organization (WTO) in 1995. Nevertheless, U.S. tariff rates (as reported by the WTO) were still lower than the rates of its major trading partners.
5. Tariffs Don’t Tell The Whole Story
Tariffs are only one weapon in the arsenal of Protectionism, perhaps one of the weakest, and certainly one of the most difficult to deploy effectively. Assessing the restrictiveness a country’s trade policy should take account not just of tariff rates, but of a wide range of measures designed to provide extra-market financial support to promote and protect companies or industries against foreign rivals. Some of these measures may have a much greater anticompetitive impact than tariffs.
The most significant non-tariff trade barriers are (1) government subsidies to companies or industries to provide a competitive cost advantage; and (2) currency manipulation.
Subsidies
Government subsidies – often called “industrial policies” – are very common, and are often aimed at helping companies to grow rather than to suppress competition or create a trade surplus per se. For example, Taiwan Semiconductor Manufacturing Corporation (the leading chip fabricator in the world) benefits substantially from government offsets, tax breaks and other subsidies.
“The government subsidizes production factors like water and electricity. The government also provides financial incentives to TSMC and other high tech companies, including a 25% tax break for substantial R&D investments and a 5% tax break for purchasing advanced manufacturing equipment locally, as well as land and infrastructure through the creation of industrial parks, research centers and transportation networks…”
Up to a point, this is benign and may be neutral in its overall effect on trade. TSMC has certainly earned their success through technological superiority.
But sometimes promotion shades into outright protectionism, and even economic warfare. China stands out for it aggressive use of large-scale subsidies for more aggressive purposes. Formal complaints to the WTO about Chinese anticompetitive practices surged 400% last year (compared to 2022), most coming from emerging economies that are being swamped by Beijing’s latest export push. In October, Canada imposed 100% tariffs on Chinese electric vehicles to combat “China’s state-subsidized overproduction” and dumping policies. The EU also imposed punitive tariffs on Chinese of 17-35% in response to similar provocations.
“The European Union announced last week that it was preparing to charge tariffs, which are import taxes, on all electric cars arriving from China. The European Union said that it had found “substantial evidence” that Chinese government agencies have been illegally subsidizing these exports.” – The New York Times (March 12, 2024)
Currency Manipulation
Currency manipulation may be even more significant quantitatively than tariffs or subsidies. By some accounts, Taiwan’s New Taiwan Dollar may be the most undervalued currency in the world, as much as 48% too low compared to a weighted average of world currencies. The Economist Magazine’s famous Big Mac index of relative purchasing power shows Taiwan’s currency undervalued against the U.S. Dollar by nearly 60%. This helps explain the country’s extraordinary trade surplus equal to fully 15% of its GDP (2024). (China’s trade surplus is just 5.6% of GDP. Germany’s is 4.2% of GDP.) Such a cheap currency is certainly helpful in promoting underpriced exports (including TSMC’s) and suppressing overpriced imports.
Mainland China’s currency manipulation is also legendary, and its much larger economy amplifies the impact. It has been estimated that China’s currency is undervalued by as much as 40%. In 2010, economist Paul Krugman called it “the most distortionary exchange rate policy any major nation has ever followed.”
Currency manipulation is a major factor in the erection of trade barriers, and more significant than tariff rate differences.
Summary
America’s tariff story is divided into two long chapters. From 1789 to 1940 the U.S. ran a High-Tariff regime. Rates fluctuated but never fell below 20%. Then, from 1940 to 2024, a Low-Tariff regime prevailed, with low single-digit rates. This liberal policy was deliberate, and asymmetric. The U.S. allowed other countries to continue to charge higher tariff rates – and both sides benefited from this policy for many years.
There is very limited recent experience with high-tariff regimes in the U.S. This should be cautionary for those trying to forecast the impact of new and higher tariffs today.
Importantly, tariffs alone do not reveal the full extent of protectionist policies adopted by our trading partners. Focusing only on tariff rates will result in an incomplete picture of trade policy. Tariff differences are often dwarfed by financial subsidies and the effects of currency manipulation, which in many cases exacerbate the asymmetry in global trade now often seen as unfavorable to the United States.
None of this is to say that raising tariffs now is the best answer to adjusting trade imbalances. In fact, adjusting tariffs without taking non-tariff trade barriers into account is likely to be ineffective, and maybe even counterproductive.