Investment Insight - Why do tariffs matter for markets?

  • Market update
  • 4 minute read

Last week US President Donald Trump announced plans to impose tariffs of 10% and 25% on aluminium and steel imports to the US across the board, as well as threatening to impose measures targeting auto imports from the European Union. This week, an outline of China tariffs was also released.


President Trump has long been vocal on trade and a tough stance on overseas trade practices that “unfairly impact American workers” was one of his campaign pledges. However, last week’s announcement is the first evidence of concrete action. The timing is no surprise – it may be important to voters that the administration delivers on this policy ahead of midterm elections and little progress has been made with renegotiating the North American Free Trade Agreement (NAFTA).


The US has a significant trade deficit – in 2017 it totalled $566bn, with a goods trade deficit of more than $810bn. Trade deficits are a negative for GDP. Most of the net deficit in goods trade is consumer goods, which make up around 50% and would not be directly impacted by the metals tariffs. Thus, the direct impact of the tariffs on GDP is likely to be minimal.


At a regional level, of the US’ visible trade balance, almost 50% is with China, with the Eurozone contributing another 17%. While the trade deficit with China has long been the target of much of Trump’s rhetoric, the real casualties of the proposed trade tariffs on steel and aluminium would be Canada and Mexico, countries party to NAFTA. In 2016, 88% of Canadian and 73% of Mexican steel exports went to the US. Putting pressure on these countries may be designed to speed progress on renegotiating NAFTA.


Thinking about the domestic economy, steel and iron import tonnage is about 40% of the volume of domestic steel production. However, domestically produced steel is more expensive – onshoring US steel consumption would push up the cost of steel, so increases to industrial production would likely be offset by US manufacturing facing higher costs.


The greatest concern for markets is that other countries may implement retaliatory tariffs on US products. Over time, the global economy could become less open, hindering trade and productivity. The European Commission is reportedly preparing retaliatory action, and would be able to do so without breaching WTO rules. China’s response would likely play out in currency markets.


Aggressive rhetoric on trade has weighed on markets, and news that economic advisor Gary Cohn, an opponent of tariffs, has resigned makes protectionist policies more likely. What began as campaign trail bombast, now risks undermining the success of the administration’s biggest achievement to date – better economic growth as a result of tax reforms. At the moment, this is only a “trade skirmish”, with little economic impact but investors will be hoping that this trade war of words does not escalate.

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