Are Trump's Tariffs Working?

Key Concepts

• Tariffs: Taxes imposed on imported goods.
• Trade War: A situation where countries impose tariffs and other trade barriers on each other.
• Trade Deficit: When a country imports more goods and services than it exports.
• Specialization: The concept that countries benefit from focusing on producing what they are best at and trading with others.
• Inflation: A general increase in prices and decrease in the purchasing value of money.
• Deflation: A general decrease in prices and increase in the purchasing value of money.
• Consumer Price Index (CPI): A measure of the average change over time in the prices paid by urban consumers for a market basket of consumer goods and services.
• Producer Price Index (PPI): A measure of the average change over time in the selling prices received by domestic producers for their output.
• Foreign Direct Investment (FDI): An investment made by a firm or individual in one country into business interests located in another country.
• GDP (Gross Domestic Product): The total monetary or market value of all the finished goods and services produced within a country's borders in a specific time period.
• S&P Global US Manufacturing PMI: A survey of purchasing managers in the manufacturing sector that indicates economic health.
• ISM Manufacturing Index: Another survey that measures manufacturing activity.
• Real Final Sales to Private Domestic Purchasers: A measure of domestic purchases of domestic production.
• AI Infrastructure: The hardware and software required to support artificial intelligence development and deployment.

Analysis of Trump's Tariffs and Their Economic Impact

This analysis examines the economic effects of the trade war initiated by the Trump administration, focusing on the period following the imposition of tariffs. The core premise of the tariffs was to benefit the US by having foreign countries pay for access to US consumers, bringing manufacturing jobs back to America, and spurring economic growth. However, economic theory and historical evidence suggest that tariffs are generally inefficient and can lead to negative consequences.

The Paradox of Inflation and Tariffs

A key question addressed is why, despite the imposition of tariffs, inflation has not surged as widely predicted.

• Tariff Mechanism: Tariffs are paid by importers, increasing the cost of goods. Economists initially feared this would directly translate to higher consumer prices.
• Current Inflation Data: While inflation has been present, it has remained below initial fears. The CPI increased by 2.9% and the PPI by 2.6% (with a 0.1% month-over-month drop in August).
• Foreign Companies' Response: Some foreign companies have lowered their prices to offset the tariff costs, absorbing a portion of the burden. Temu, for example, reduced prices by an average of 18%.
• US Businesses Bearing the Brunt: Contrary to the initial assumption that foreign countries or US consumers would bear the majority of the cost, data from Goldman Sachs suggests that US businesses have absorbed approximately 64% of the tariff costs, with US consumers bearing only about 14% initially.
• Reasons for US Business Absorption:
  • Weak Consumer Confidence: A drop in consumer confidence since 2025 has made businesses hesitant to pass on higher costs, fearing reduced spending.
  • Trade Volatility: Uncertainty surrounding trade negotiations and policy changes has led companies to avoid alienating consumers and to wait for a clearer picture.
  • Inventory Stockpiling: Companies initially increased imports to get ahead of new tariffs, temporarily delaying price hikes as they utilized existing inventory.
• Unsustainable Mitigation: These mitigation strategies are not sustainable. Goldman Sachs estimates that by the fall, consumers will be covering 67% of tariff costs as businesses pass on increases.
• Long-Term Inflationary Outlook: While final product prices are not directly increased by the tariff rate on components, the cumulative effect of higher input costs, coupled with other factors like labor and retail, is expected to lead to a broad price increase of approximately 2 percentage points above current levels, potentially reaching 4-5% inflation.
• Deflationary Argument: Some economic schools of thought argue that all forms of taxation are deflationary by reducing money supply. While tariffs do have a dampening effect on money supply, this is often offset by their direct impact on prices, supply chain disruptions, and the "deadweight loss" of taxes.
• Government Spending Counteracting Deflation: The "Big Beautiful Bill" (tax cuts and increased government spending) is projected to increase the government deficit by $1 trillion over the next decade, actively counteracting any deflationary influence from tariffs.
• Empirical Evidence: Historically, tariffs tend to lead to higher price levels for the imposing country, especially during economic expansion. Price decreases are more often seen during recessions. The PPI decrease was largely driven by services, while goods prices, where tariffs are applied, still increased.

Impact on Manufacturing Jobs and Investment

The administration's goal of revitalizing US manufacturing through tariffs is also examined.

• Trade Deficit Reduction: The US trade deficit did fall by 25% year-over-year in July, but this followed a period of record high imports.
• Lack of Manufacturing Reignition: Domestic manufacturing has not shown significant signs of recovery.
  • S&P Global US Manufacturing PMI: Showed a strong rebound in August.
  • ISM Manufacturing Index: Indicated the sixth consecutive month of manufacturing activity contraction, with 69% of manufacturing GDP estimated to be in contraction.
  • Real Final Sales to Private Domestic Purchasers: While better than expected recently, it remains lower than a year ago.
• Job Market Performance:
  • Aggregate Level: Continued decline in employment, with unemployment reaching its highest point in four years. The US has seen more job seekers than openings for the first time since April 2021.
  • Manufacturing Jobs: Specifically, jobs in the manufacturing sector have fallen for the fourth consecutive month.
• Time Lag for Impact: It is acknowledged that it takes time for companies to build domestic manufacturing capacity, and a meaningful impact on manufacturing jobs could take years.
• Investment Promises: The administration has highlighted significant investment promises from both domestic companies (Apple, Nvidia) and foreign entities (UAE, Japan, EU) totaling trillions of dollars.
  • Potential Impact: If realized, these investments could significantly boost economic activity. US FDI in 2024 was around $330 billion, so trillions would be substantial.
• Questionable Follow-Through on Investment Promises:
  • Japan: Has moved closest to cementing its promise with an MOU.
  • Gulf States: Promises are largely verbal and may be difficult to meet.
  • European Union: A $600 billion investment promise is based on expected private company contributions, not enforceable commitments.
  • South Korea: Disagreements over investment terms have emerged for their $350 billion promise.
  • Tech Investments: Many large foreign investment promises, particularly for tech and pharmaceuticals, may be driven by surging demand for AI infrastructure and drug development rather than tariffs.
  • TSMC Example: The $100 billion commitment from TSMC was made before tariffs on Taiwan or semiconductors were announced.
  • Prior Agreements: A Reuters review found that a significant portion of claimed investments were previously secured under the Biden administration or were routine spending.
• Lack of Infrastructure Buildout: Despite promises, the necessary infrastructure for bringing manufacturing jobs back to the US has not yet materialized. US factory construction is down 7% from last year, partly due to companies completing projects under previous incentive programs like the CHIPS Act and the Inflation Reduction Act.

Economic Growth in Spite of Tariffs

The analysis addresses the apparent contradiction of economic growth occurring alongside tariffs.

• GDP Growth: The US economy grew at 3.3% year-over-year in the second quarter, exceeding expectations and its long-term average.
• Distorting Impact of Tariffs: Imports have contributed to fluctuations in GDP prints, lowering it in Q1 and raising it in Q2.
• Other Favorable Factors:
  • "Big Beautiful Bill": Tax cuts and other stimulus measures within this legislation could be stimulating the economy.
  • AI Gold Rush: Significant spending by tech companies on AI infrastructure ($375 billion in 2025, $500 billion in 2026) is driving short-term economic activity.
• Performance "In Spite Of" Tariffs: The economy appears to be performing well despite tariffs, not because of them. Most empirical research suggests tariffs have a net negative impact on economic activity and lead to increased unemployment.
• Forecasted Impact: Most forecasts predict a 1 percentage point impact on US GDP due to current tariffs.
• Negotiation Aspect: While tariffs can be used to negotiate better trade deals, the long-term impact, ignoring the negotiation aspect and short-term distortions, is likely to dampen overall economic activity.

Conclusion and Key Takeaways

The analysis concludes that while the economic picture is complex and subject to short-term distortions, the evidence to date does not strongly support the idea that Trump's tariffs have benefited the US economy overall.

• Uncertainty: The future impact of tariffs remains uncertain, with possibilities of improved trade deals or long-term economic harm.
• Importance of Deeper Analysis: It is crucial to look beyond individual data points and understand the underlying factors influencing economic trends.
• Empirical Evidence vs. Promises: While lofty promises of investment and economic prosperity have been made, concrete follow-through and net economic benefit from tariffs have not yet been widely observed.
• Tariffs as a Distorting Force: Tariffs create distortions that make it difficult to ascertain their true impact, and most economic research points to a negative correlation between tariffs and economic growth.
• The economy is performing in spite of, not because of, tariffs. The current growth is likely driven by other factors like stimulus measures and the AI boom.