Former President Donald Trump has an excellent chance of winning the presidential election. If he wins, it won’t be because he knows anything about economics. The latest example of Trump’s proclivity for spouting economic nonsense occurred last week when he said that he was thinking about replacing the federal income tax with a policy of national tariffs.
Trump claims he would raise revenues by imposing very high tariffs on the goods and services produced overseas but consumed in the United States. Trump hates the structural trade deficit that the U.S. has incurred since the mid-1970s. But reducing the trade deficit through tariffs is terrible economic policy.
First, tariffs raise prices on many goods that households take for granted as part of the American lifestyle. Trump’s tariffs on washing machines, dishwashers, and other so called white goods that are commonplace in households raised prices on such goods by 20% to 50%. The tariffs contributed to inflation which people hate. Yes, the tariffs did save a few hundred jobs at domestic manufacturers, but at a price of $800,000 for each job saved.
It would have been more cost-effective just to pay the workers whose jobs were saved $100,000 to stay at home. A major reason why Trump could win in November is Bidenomics, which causes inflation. To repeat, people hate inflation. Trump’s proposal about a national policy of tariffs would be Bidenomics writ large, a sure vote loser. Moreover, it is just plain ludicrous to think that tariffs could replace the federal income tax.
Consider that this year the U.S. will import about $4 trillion in goods and services. In 2024, the federal income tax will raise about $2.8 trillion in revenue. Basic arithmetic says that the federal government would need to increase tariffs by maybe 85%. Of course, raising tariffs would not happen in a vacuum. Countries would retaliate, and a vicious global trade war would unfold.
Sure, manufacturing jobs would be created, and the trade deficit would disappear, but the U.S. economy would be severely disrupted. Inflation would go through the roof. The Federal Reserve would be forced to raise interest rates to double-digit rates. The economy would enter a deep recession. The services sector which accounts for about 75% of economic activity would collapse as households would pay dramatically more for essential goods including vehicles, appliances, and bananas.
Money spent on essential imports would not be spent at restaurants or on travel. Large pockets of the economy would collapse. National well-being would suffer. And that scenario does not account for the damage to the global economy. In plain language, replacing the federal income tax with tariffs would be stupid. Trump would be emulating Biden’s gross incompetence.
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Trade deficits are not necessarily bad. Trade deficits increase household consumption and well-being. As long as the U.S. trade deficits are stable as a percentage of gross domestic product and as long as Americans pay for imports with U.S. dollars, modest trade deficits are positive from the standpoint of household well-being.
If Trump wants to eliminate the U.S. structural trade deficit, then he should propose policies to reduce the federal deficit. A principal cause of the trade deficit is excessive demand caused by the federal deficit. The government spends more than it takes in. Balance the budget and excess demand will fall. Modest tax increases on all households and tweaks to entitlements would dramatically reduce the trade deficit. But that would require Trump to offer political courage instead of populist gimmicks.
James Rogan is a former U.S. foreign service officer who later worked in finance and law for 30 years. He writes a daily note on the markets, politics, and society.
