Tariffs: Everything You Need to Know

Origins of Tariffs

Tariffs have ancient roots, dating back to Mesopotamian and Egyptian civilizations where they were used to control trade and generate government revenue. The Greeks and Romans later implemented tariffs to regulate imports and exports, often protecting domestic industries and funding military campaigns.

During the Middle Ages, European kingdoms and city-states commonly used tariffs to finance governance and control goods flow. As global trade expanded in the early modern period, countries like England, France, and Spain increasingly used tariffs to protect domestic producers and fund colonial empires.

In modern history, tariffs became a key economic and political tool, particularly during the 19th and early 20th centuries when protectionist policies were widespread. Recent years have seen a resurgence of protectionism and anti-globalization sentiments.

What Is A Tariff?

A tariff is a tax or duty imposed by a government on imported or exported goods. They serve several purposes:

Generate government revenue
Protect domestic industries from foreign competition
Influence trade policies

Tariffs come in different forms:

Ad valorem: A percentage of the item's value
Specific tariffs: A fixed amount per unit of goods

While tariffs can benefit domestic producers competing with global markets, this benefit is only realized if domestic resources and labor are available and can be allocated to production in alignment with demand. Additionally, while tariffs make imported goods more expensive (potentially helping domestic producers), they also lead to higher consumer prices and potential trade disputes.

Who Pays The Tariff?

Despite political rhetoric suggesting foreign exporters pay tariffs, the importing company or entity in the country imposing the tariff is directly responsible for payment. When a tariff is applied, the importer must pay the tax to the government at customs clearance. This cost is then typically distributed through the supply chain in several ways:

Absorption by Businesses: Companies may absorb part or all of the tariff costs to maintain competitiveness, reducing their profit margins
Supply Chain Adjustments: Importers might seek alternative suppliers from tariff-free or lower-tariff countries
Higher Consumer Prices: Businesses often increase prices on goods to offset the added costs of tariffs, meaning consumers ultimately bear the burden

How Are Tariffs Imposed?

Tariffs typically target specific products rather than all imports from a particular country. Governments classify goods using systems like the Harmonized System (HS) codes, which categorize products based on their type, material, and use. Tariffs are then applied to these categories based on economic impact studies and domestic production capabilities.

While tariffs are product-based, they can be strategically applied to goods primarily imported from specific countries, effectively acting as country-specific trade barriers. For example, during the U.S.-China trade war, the U.S. imposed tariffs on a wide range of Chinese-made products like electronics, steel, and machinery.

Special trade policies, such as Section 301 (retaliatory tariffs) or Section 232 (national security tariffs) in the U.S., can result in widespread tariffs that primarily target a specific country's exports, even if structured around individual products.

Proposed Tariff Targets

Current tariff proposals target several countries for various strategic reasons:

Canada and Mexico: Proposed tariffs aim to pressure these USMCA free-trade members into taking stronger actions against illegal immigration and drug trafficking, particularly fentanyl. This aligns with the "Buy American" agenda to boost U.S. manufacturing.
China: Further tariffs target China to address concerns over trade imbalances, intellectual property rights, and illicit drug flows. These measures are part of broader efforts to protect U.S. industries and national security interests.
BRICS Nations (Brazil, Russia, India, China, and South Africa): Threatened tariffs aim to prevent these countries from creating a new currency to replace the U.S. dollar as the global reserve currency.
Europe: Tariffs on European goods aim to encourage allies to increase defense spending, aligning with demands for NATO members to contribute more to collective defense.

How Countries Typically Respond to Tariffs

Countries can respond to tariffs in various ways:

Retaliatory Tariffs: Imposing their own tariffs on goods from the initiating country, creating a "tit-for-tat" escalation
Negotiations: Engaging in direct talks to resolve issues behind the tariffs
WTO Challenges: Filing disputes with the World Trade Organization
Trade Diversification: Reducing dependency on trade with the tariff-imposing country
Domestic Policy Adjustments: Implementing subsidies or shifting production to mitigate effects
Currency Devaluation: Making exports cheaper to offset tariff impacts
Political Measures: Imposing sanctions or withdrawing from trade agreements

Economic Impact on the United States

Recent research from various institutions shows consistent findings regarding the impact of proposed tariffs:

Peterson Institute for International Economics (Feb 3, 2025): Tariffs on Canada, Mexico, and China would cost the typical U.S. household over $1,200 per year.
Goldman Sachs (Feb 7, 2025): Economists predict the effective U.S. tariff rate could increase by about 4.7 percentage points with Chinese tariffs alone, and an additional 5.8 percentage points if Canadian and Mexican tariffs are implemented. Every five-percentage-point increase in the U.S. tariff rate is estimated to reduce S&P 500 earnings per share by roughly 1-2%.
Economic Policy Institute (Feb 10, 2025): Per capita tariff costs estimated to range from $515 to $1,001, depending on the state.
The Budget Lab at Yale (Mar 3, 2025): Price levels would rise by 1.0-1.2%, resulting in average consumer losses of $1,600-2,000 per household. Real GDP growth is expected to be 0.6 percentage points lower in 2025, with the U.S. economy consistently 0.3-0.4% smaller long-term ($80-110 billion annual loss).

The key takeaway: Tariffs will increase consumer costs, slow GDP growth, and reduce domestic earnings.

It's worth noting that despite these economic realities, some may support tariffs as a necessary tool to protect domestic industries, jobs, and national interests. This highlights the complex balance between economic priorities and political agendas. However, protectionist benefits only materialize if domestic producers can adequately meet consumer demand.

Can Tariff Revenue Replace Personal Income Taxes?

Recent proposals have suggested replacing personal income tax revenue with tariff revenue. For example, statements have highlighted the 1890s when the U.S. relied on tariffs without income taxes, and suggested tariffing foreign countries to "enrich our citizens."

A theoretical 70% tariff on all imports ($3.1 trillion in 2023) would raise approximately $2.2 trillion, matching current income tax revenue. However, such extreme tariffs would dramatically reduce imports, thereby diminishing generated revenue.

Conclusion: Tariff revenue could not fully replace income taxes, though it could potentially reduce reliance on personal income taxes.

Perspectives from Leading Economists

Adam Smith: The father of modern economics strongly criticized tariffs and protectionist policies. In "The Wealth of Nations," Smith argued tariffs hindered economic growth and efficient resource allocation. He believed free trade allowed nations to specialize where they had comparative advantages, leading to increased efficiency and wealth for all trading partners.
John Maynard Keynes: Held a more nuanced view of tariffs. During economic downturns like the Great Depression, Keynes saw tariffs as potential tools for stimulating domestic demand and protecting industries from foreign competition. He advocated a balanced approach where tariffs might be used temporarily during economic distress but should eventually give way to international cooperation and open markets.
Milton Friedman: This leading 20th-century economist and free-market capitalism proponent firmly opposed tariffs, believing they were detrimental to both economic efficiency and individual freedom.