President Donald Trump’s ‘Liberation Day’, one of the most egregiously disastrous policy pronouncements in American history, is causing immeasurable self-harm to the US economy and perhaps putting the nail in the coffin of Pax Americana.
The US economic hit will be enormous. Trump’s tariff hikes exceeded the high end of lofty expectations. Coupled with Trump’s earlier actions, the effective US tariff puts the 1930 Smoot-Hawley Tariff Act to shame.
Some analysts estimate consumer prices will rise by over two percentage points, household income and consumption will be badly thumped, especially for the lowest-income quintile, and gross domestic product may be cut by nearly 1pp in 2025. Estimates of budgetary impact vary. But the administration’s claims that revenue will rise by $6tn by 2035 are gibberish; conventional estimates including dynamic effects are under $3tn, hardly offsetting Trump’s irresponsible tax cut plans. Trump’s hopes for a revolution in US manufacturing – less than 10% of the economy – are likely to be a pipe dream.
The Federal Reserve’s task just got trickier. Inflation and recession risks are rising. Will the Fed fret about inflation given its pandemic experience, maintain a balanced approach to its dual mandate or shift to combatting possible labour market weakness?
Global fallout
Alas, the harm from Trump’s wrongheaded trade war is not confined to the US. It is global. Retaliation will only magnify the impacts.
China’s economy, already in the doldrums, will be slammed by effective tariffs that are now in line with, if not exceeding, Trump’s campaign promises of 60%. Estimated Chinese growth losses vary, clustering in the 1% to 2% of GDP range.
Trump had already announced 20% tariffs on Chinese goods before layering on top the 34% reciprocal tariffs, in addition to tariffs still in place from the first administration. China had taken a restrained approach to these announcements, but the gloves have now come off with China reportedly adding a 34% tariff to match Trump’s “reciprocal” tariff.
At home, the leadership will face pressures to pursue more stimulative fiscal and monetary policies. The authorities have sought to steady the renminbi amid a massive current account surplus but sharp capital outflow pressures. They could let the renminbi fall to offset some of the tariff hikes. But given the renminbi’s highly competitive valuation and fears of a repeat of the 2015-16 massive financial outflows, authorities may hold the line.
The rest of Asia is also a big loser. Only a few years ago, US officials were delighted to see firms leaving China. Companies that relocated to Vietnam for supply chain resilience just got clobbered with massive 46% reciprocal tariffs. Thailand, Malaysia and Cambodia fared little better. These countries should have room to cut rates and allow exchange rate depreciation.
European growth estimates vary, but activity may take a hit of around +/-0.5pp to 1pp of GDP. Automotive tariffs could especially hurt German growth prospects and it is unclear when Germany’s planned fiscal changes will boost the economy. The euro area inflation impact may not be great, especially if the euro remains relatively flat or even rises. The fallout of lower oil prices may prove disinflationary. That may increase scope for and pressure on the European Central Bank to cut further than currently foreseen.
Canada and Mexico now most likely face recession.
What does this mean for America and the dollar?
Global financial markets are in turmoil, mired in equity losses. There is blood on the street.
Many analysts asserted that large tariffs would be dollar positive – foreign exports would cost more and be less competitive. But the dollar has instead plummeted.
A range of factors could be at play. US rates and equities had already been tumbling on heightened growth and recession fears and declines accelerated on steroids following Trump’s announcements. Expectations for Fed cuts are rising. The dollar frequently appreciates in a sharp risk-off environment, but perhaps it is losing its lustre as the US is the source of disquiet. Is this a telltale sign?
While analysts focus on near-term economic fallout, far bigger ramifications relate to America’s role in the international order. Enormous worldwide economic gains were sparked by America’s post-second world war security umbrella, its backing for trade liberalisation and its prosperous economy.
The US had turned more inward over past decades, especially as economic challenges mounted at home. But it still retained a largely outward focus.
That Europe is stepping up to defend itself and rely less on the US is a positive development, though far too much crockery had to be broken for Europe to act. President Xi Jinping is looking good by default. Those who now argue Trump’s actions are aimed at a geopolitical reordering may simply be engaged in post-hoc rationalisation of chaos and long-time Trumpian tariff love.
With Trump backing Russia over Ukraine, questioning Nato’s usefulness, insulting Canada and Mexico, suggesting the European Union exists to ‘screw’ America, asserting our friends have ‘raped’ and ‘pillaged’ the US, and threatening Greenland and Panama, to say nothing of attacking democratic norms and institutions at home, Trump has tossed aside America’s soft power.
The world has lost trust in the US and can no longer regard it as a reliable partner. Pax Americana and the gift and legacy of the so-called ‘Greatest Generation’ to America and the world is being thrown away. Trump’s tariff announcement is likely to be a nail in the coffin. What comes next?
Mark Sobel is US Chair of OMFIF.
OMFIF’s Global Public Investor 2025 will examine the impact of Trumps policies on the global investment landscape. Register to attend the launch on 24 June.
Interested in this topic? Subscribe to OMFIF’s newsletter for more.
Image source: White House