What experts don't want you to know: Trump is winning on tariffs

President Donald Trump's actions have truly stumped the pundits. He assumed office last January on a platform of imposing tariffs on goods imports into the US as a means of reducing America's chronic and ever-growing trade deficits. The experts denounced his plans saying it would take the US economy as well as the world economy into an abyss.

Mr Trump has been as good as his word. He first imposed "reciprocal tariffs" and then used these as a negotiating tool with leading trade partners who account for about 60 per cent of America's trade. The EU, UK, Japan and South Korea are among those who have been bludgeoned into submission. Those holding out have been hit with tariffs of up to 50 per cent. China faces a tariff of 30 per cent with a 90-day pause coming to an end in the next few days.

The astonishing thing is that the dire forecasts of experts have simply not come true. So far, Mr Trump has had his way without the world economy or the US economy going into a tailspin. Experts have now gone into overdrive to come up with reasons for why their forecasts have not come true. They are being dishonest. They must simply accept that they have been proved wrong.

More in my BS column, Trump is winning the tariff war hands down. 

FINGER ON THE PULSE
TT RAM MOHAN

Trump is winning the tariff war hands down

India is smarting under the tariff announced by United States President Donald Trump recently. It now faces a tariff of 25 per cent, plus an additional 25 per cent penalty for importing oil from Russia. Coming soon: Punitive tariffs on all pharmaceutical exports to the US, something that will bite Indian pharma companies. 

 Nearly 70 countries have been hit by tariffs on top of the universal 10 per cent levy. The tariffs are not just about reducing America’s current account deficit. Mr Trump has weaponised them to make a political point --- or even a personal one.

After announcing the 25 tariff on India, Mr Trump added insult to injury by calling India a dead economy. He flaunted the deal to explore oil reserves in Pakistan and hinted at Pakistan selling oil to India down the road, clearly a poke in the eye for New Delhi.

   India is not alone in being penalised and humiliated by Mr Trump for reasons other than trade. Canada faces a tariff of 35 per cent for not curbing the flow of fentanyl and other drugs. Mr Trump made it plain that Canada’s plan to recognise Palestine as a state is an aggravation. 

Switzerland has been hit with a tariff of 39 per cent, the highest for any European country. Mr Trump is irritated by the high prices Swiss pharmaceutical companies charge for their drug exports to the US. South African exports face a tariff of 30 per cent for “genocide” against whites. Brazil’s takes the cake. Its exports will be charged a tariff of 50 per cent  the highest for any nation (the same as India’s) because Mr Trump believes that his friend, the former Brazilian President Jair Bolsonaro, is being falsely prosecuted for political reasons. 

People everywhere are outraged by Mr Trump’s whimsical ways. Commentators fulminate against his actions. But here’s the bad news for Mr Trump’s detractors: Mr Trump is winning the tariff war hands down.

When Mr Trump announced “reciprocal” tariffs on April 2, pundits forecast a trade war in which other nations would retaliate by imposing tariffs on US exports to them. Everybody would be worse off as happened with the infamous Smoot-Hawley tariffs in the US of 1930, which led on to the Great Depression.

Nothing of the sort has happened. The United Kingdom, Japan, Vietnam, South Korean, Indonesia and the Philippines have all caved in meekly to Mr Trump’s dictates and signed one-sided trade deals. The European Union (EU), the second-largest economy in the world in terms of gross domestic product (GDP), too capitulated--and how. 

EU chief Ursula von der Leyen, flew to Mr Trump’s golf course in Scotland to work out a trade deal. Mr Trump kept her waiting until he and his son had finished their second round of golf. Thereafter, he took her on a tour of his mansion where he bragged about the magnificence of his ballroom. Ms Leyen sought to flatter the American President. “You’re known as a tough negotiator and dealmaker”, she said. “But fair,” said the US President. “But fair”, the EU head dutifully echoed. 

There followed the announcement of a US-EU trade deal. EU exports to the US would be subject to a 15 per cent tariff while the EU would remove all tariffs on US industrial goods. The tariff of 50 per cent on the EU’s exports of steel, aluminium and copper would stay. Further, the EU has committed to buy $750 billion of US energy over the next three years and to invest $600 billion in the US over President Trump’s term. In the phraseology of the Second World War, it was “unconditional surrender”. 

Mr Trump’s detractors had warned of the dire effects of his brand of protectionism. The US would face higher inflation and lower growth. Equity and bond markets would tumble. The global economy would come crashing down. 

None of these forecasts has come true.  In its July 2025 update for the world economy, the International Monetary Fund (IMF) raised its forecast for 2025 by 0.2 percentage points to 3 per cent, relative to its April 2025 forecast. That’s the rate at which the world economy has grown since 2011. As for the US economy, the IMF has revised its forecast for the US upwards to 1.9 per cent, from 1.5 per cent in its April forecast. That doesn’t look at all as if the US economy is hurting from Mr Trump’s policies.

The American equity market is close to its record levels of the past five years. Yields on government bonds are below those in January 2025 when Mr Trump took over, and broadly in line with bond yields in 2023 and 2024. Inflation rose to 2.7 per cent in June, hardly the terrifying level it was projected to reach.

Analysts are now trying to tell us why things have panned out very differently. Inflation staying low? American importers stockpiled goods in anticipation of higher tariffs, so the tariff increases are yet to translate into higher inflation. That may be true of current inflation, but why have forward-looking bond yields not moved up?    Mr Trump’s critics conveniently ignore the role of oil prices in containing inflation. Brent crude oil prices are at least $8 below those a year ago- and Mr Trump is keen to drive them down even further. 

Financial markets not rattled? That’s because markets had expected much higher levels of tariffs and are relieved at the levels at which these have settled. Well, the present level of tariffs is seven times the level before Mr Trump took office!  Stock prices are sky-high? That’s because of the Artificial Intelligence (AI)  frenzy. But the AI frenzy was known when commentators were warning us that Mr Trump’s tariffs would cause a meltdown in equity prices.

The Economist has been at the forefront of those castigating Mr Trump for his wayward ways and warning of the terrible consequences that will follow. It has now come up with an explanation for why apocalypse hasn’t happened yet. 

The world economy, it contends, has a better capacity to absorb shocks today for a variety of reasons. Supply chains have become more efficient and resilient; changes in oil prices are less unsettling because a more diverse supply of energy is available; firms have become more adept at dealing with shocks; the services economy is less susceptible to shocks than an industrial economy; and governments are quick to take measures to cushion the economy from shocks. Capitalism has produced a “teflon economy”. The analysis begs the question: If the global economy is so resilient, why   has The Economist got  worked up about the disruptive effect of Mr Trump at all? 

As far as Mr Trump is concerned, his tariffs are bringing him higher revenues while protecting American industry and getting foreign firms to invest and manufacture in the US. All this without destabilising the financial markets. It’s no surprise that the torrent of criticism Mr Trump faces has left him unfazed. Mr Trump sees himself as a winner, not a whiner-- and that’s not a minor difference. 

EU- US Trade deal: Unconditional surrender

"Trump ate von der Leyen for breakfast", an irate Hungarian PM Viktor Orban commented after the EU-US trade deal was announced.

It wasn't just the terms of the deal, it was the optics that led up to it. EU chief  Ursula von der Leyen had fly to Trump's golf course in Scotland. She was made to wait until Trump and his son had finished their second round of gold. Then came the "talks" and the announcement.

Under the deal, most EU exports to the US would be subject to a15 per cent tariff. There is a small list of exempted items. The EU, in addition, commits to buying $250 bn worth of American oil and gas over the next three years and will also invest ove $600 bn in the US (the time period for which is not specified). EU car exports will face a lower tariff of 15 per cent compared to the 25 per cent they now face. However, steel and aluminium exports will continue to face a tariff of 50 per cent. Trump has also indicated repeatedly that punitive tariffs on pharmaceutical imports into the US are in the offing. 

What does the EU get in return? Well, it doesn't have to face the 30 per cent tariff that its exports would otherwise have faced. EU exports and growth will be adversely impacted but less so than if Trump had hit EU with the 30 per cent tariff he had threatened in the absence of a deal.

It's hard to think of a more humiliating moment for Europe. The EU's commitment to raise defence spending to 5 per cent of GDP under pressure from Trump was humiliating but at least that could be defended as self-interest. It was meant to protect Europe from the alleged Russian threat. 

The Europeans fear not just for their economy in the face of Trump's determination to effect tariff walls but about the US exiting NATO if they rub Trump the wrong way. It's hard to tell what Trump would do if annoyed. But the Europeans know that he can seriously hurt them.

As WW2 headed towards a finish, the Allies (Europe, the US and the then Soviet Union) framed an objective with respect to Germany: Unconditional Surrender. 

That would be an apt characterisation for the EU- Trump deal

Libor-rigging: acquittal of two bankers

Post the Global Financial Crisis (GFC), the banking sector- and bankers- came under the scanner. The public was outraged that these men and women had laid low the entire global economy. (Never mind that the US Federal Reserve had contributed with its decision to let Lehmann Brothers fail).

The public demanded accountability. "Why are bankers not getting jailed?" was the general clamour.

In the numerous investigations that followed, the authorities discovered that the Libor rate, which was the reference rate for interest rates on various products, was being manipulated. This is how it happened.

Banks were required to submit their borrowing rates in the inter-bank market. The top 25% and the bottom 25% of the submissions would be left out and the rest would be averaged out to get the Libor rate. It turns out that bankers made incorrect submissions in order to benefit their trading positions. This was called the 'Libor-rigging' scandal. Harsh sentences were handed down on several bankers, quite low in the hierarchy but extremely well paid. The Libor rigging had little to do with the GFC but then this was all about throwing a few bankers to the wolves.

Two of the bankers convicted were Tom Hayes and Carlos Palombo. Hayes got a 14-year sentence, which was reduced to 11 years. Inmates his at his jail assumed he was a child sex offender given the severity of his sentence. Five and a half years later, Hayes has been acquitted. So has Palombo.

The Supreme Court of UK overturned their sentences recently on a technicality. The lower court judge, while giving directions to the jury, had said that taking commercial considerations into account while submitting Libor rates was a dishonest thing to do. The Supreme Court ruled that that was a matter for the jury to decide. For the jury to have taken that as a given meant that Hayes had faced an unfair trial.

Mind you, the Supreme Court did not exonerate Hayes of the charges. On the contrary, it said there was "ample evidence" to secure a conviction. However, since the process was flawed, he had to be acquitted. The Serious Fraud Office has said it will not appeal against the judgement. Hayes is now a free man. Other bankers similarly convicted are now planning to appeal.

The case is not about particular individuals. It is the banking sector that was on trial. The manipulation of submissions was widespread in the banking sector. Top management knew about it as did the regulators. It was what is called 'industry practice'. Nobody batted an eyelid when bankers manipulated the rates to suit their trading positions to benefit themselves and their banks. In proceeding after a few bankers, the Serious Fraud Office was seeking to satisfy the public's cry for blood consequent to the GFC. It has now covered itself with mud.

Dodgy practices continue to abound in the banking sector. There is a push once again for 'light touch' regulation instead of the stringent regulations that came about after the GFC. Will bankers, regulators and politicians ever learn? Perhaps not. The power of vested interest triumphs.

Court order on Trump tariffs: how much of a setback is it for Trump?

The Court of International Trade has ruled that President Trump wrongly used emergency powers to impose the tariffs he announced on Liberation Day, May 2. 

How big a setback is it for Trump? A column in FT indicates several ways open to Trump:

The so-called section 232 tariffs on cars and steel are unaffected by the ruling. Trump will appeal this decision to the federal circuit court; beyond that he has a pliant Supreme Court waiting for him if need be; there are other obscure pieces of decades-old legislation he can dust off to resume his tariff campaign. 

The American Congress has the legal powers to restrain the President of the United States. Over the years, Congress has progressively ceded these powers so that the President has a free run in most matters. Only Congress has the right to declare war. But American presidents have, for decades, initiated steps that led up to war without Congressional approval. There are numerous articles on the subject. Here is one:

President Ronald Reagan invaded Grenada. President George H.W. Bush invaded Panama and Somalia. President Bill Clinton used military force in Iraq, Haiti, Bosnia, Afghanistan, Sudan and Kosovo all without congressional approval. (President George W. Bush didn’t declare war on Afghanistan or Iraq, but Congress authorized the use of military force for those engagements). President Barack Obama ordered targeted military strikes in Libya in 2011 and dozens of unmanned drone strikes in Pakistan without congressional approval.

The courts have not stepped in either in these matters. So it's a bit of a stretch to think the courts will attempt to interfere in matters of economic policy, such as President Trump's position on tariffs. 

The difficulty for the Trump administration is that clearing the hurdles posed by the judiciary in this matter will prolong uncertainty and create turbulence in the markets. The challenge is not pushing through tariffs per se as ensuring that the markets do not spin out of control in the interim. 

Scott Bessent talks tough to IMF and World Bank

Treasury Secretary's address at the IIF is worth reading. It lays out basic principles of American economic policy and also has clear ideas on reforms needed at the IMF and World Bank.

I cannot do better than quote from the address:

Trade imbalances 

The status quo of large and persistent imbalances is not sustainable. It is not sustainable for the United States, and ultimately, it is not sustainable for other economies.

China’s current economic model is built on exporting its way out of its economic troubles. It’s an unsustainable model that is not only harming China, but the entire world.....China can start by moving its economy away from export overcapacity and toward supporting its own consumers and domestic demand. Such a shift would help with global rebalancing that the world desperately needs.

....Europe has already taken some long-overdue initial steps that I applaud. These steps create a new source of global demand and also involve Europe stepping up on the security front.

IMF reform

The IMF’s mission is to promote international monetary cooperation, facilitate the balanced growth of international trade, encourage economic growth, and discourage harmful policies like competitive exchange rate depreciation.  

.....Instead, the IMF has suffered from mission creep. The IMF was once unwavering in its mission of promoting global monetary cooperation and financial stability. Now it devotes disproportionate time and resources to work on climate change, gender, and social issues. These issues are not the IMF’s mission.

....The IMF must refocus its lending on addressing balance of payment problems, and its lending should be temporary.

World Bank reform

We encourage the (World) bank to go further in giving countries access to all technologies that can provide affordable baseload generation. The World Bank must be tech-neutral and prioritize affordability in energy investment. In most cases, this means investing in gas and other fossil fuel-based energy production. In other cases, this may mean investing in renewable energy coupled with systems to help manage the intermittency of wind and solar.

....Going forward, the bank must set firm graduation timelines for countries that have long since met the graduation criteria. Treating China, the second-largest country in the world, as a developing country is absurd.

The World Bank should also implement transparent procurement policies based on best value. It must help countries move away from procurement approaches that prioritize only the lowest-cost bids.

......

That is as clear-headed an agenda as can be. Bessent has emerged as the voice of reason and calm in the current Trump administration. His choice is significant because of his vast experience in financial markets as a celebrated fund manager. The big challenge for President Trump in reorienting the US economy is to ensure there are no major convulsions in the financial markets. In selecting Bessent as Treasury Secretary, Triump has chosen well- a tribute to his judgement of people.

The ABC of Trumponomics

I have written quite a few pieces about President Trump and his approach to tariffs. I wrote one this week for the Hindu titled Trumponomics deserves to be taken seriously. 

Mr Trump's approach to economic policy-making is intuitive. It's the intuition of a businessman who can latch on to things that academics may not be readily aware of. It's also the intuition of a mass leader who can see how polices are playing out at the grassroots, again in a way that intellectuals cannot readily discern.

The establishment, which includes influential sections of the media (such as the NYT, FT and the Economist), likes to portray Mr Trump as a giant wrecking ball that will leave the US and the world and in ruins. They like to portray him as an ignoramus who will act according to his whims and fancies and without regard for basic principles of economics.

What Mr Trump is attempting is a fundamental reset of the US economy. It's impossible to predict how exactly his initiatives will play out. But I'm reasonably clear that Trumponomics is more carefully thought through than Mr Trump's detractors imagine. Scott Bessent, the Treasury Secretary, who is one of Mr Trump's leading economic advisers, is not the sort of person who will embark on economic policies without a careful evaluation of their implications. He's a financial markets person, somebody who understands very well the interplay between macro-policies and the financial markets. It is important not to rush to judgement on Mr Trump's initiatives based on short-term movements in the stock markets or bond markets.

Trumponomics deserves to be taken seriously

While Donald Trump’s detractors believe that he has embarked on the impossible, the fact is that this is a mission that the world will need to adjust to

T.T. Ram Mohan is a former Professor at IIM Ahmedabad

“To me,” United States President Donald Trump has famously said, “tariff is the most beautiful word in the dictionary”. Mr Trump has shown that he means it. By imposing tariffs of varying degrees on a wide range of countries, he has initiated a trade war, the likes of which the world has not seen since the Second World War.

Following turbulence in the American bond market, Mr. Trump has announced a 90-day pause on tariffs on all countries except China. Hardly anybody thinks that Mr Trump will back off from tariffs for fear of visiting serious dislocation on the U.S. economy and the world at large. Trumponomics is a mission to fundamentally remake the American economy. It deserves to be taken seriously if only because the world will need to adjust to it.

First, the propositions

Trumponomics rests on a few key propositions. The first is that America needs to bring back manufacturing, lost to China and other economies over the past several decades. It needs to do so for several reasons.

Globalisation and the offshoring of manufacturing in the U.S. have meant the loss of millions of jobs. Estimates of jobs losses in manufacturing vary. Stephen Miran, Chair, Council of Economic Advisers, The White House, cites a study that estimates jobs lost in manufacturing between 2000 and 2011 at two million (Stephen Miran, A User’s Guide to Restructuring the Global Trading System). Robert E. Lighthizer, who was the U.S. Trade Representative in Mr. Trump’s first term, says five million manufacturing jobs were lost in the period 2000-09.

Job losses have been concentrated in particular areas. Thriving industrial centres have been reduced to ghost towns and whole communities hollowed out. There are other social costs: homelessness, rising crime, drug abuse, and broken families. America’s services sector has absorbed a portion of those who lost jobs in manufacturing. But these are low-wage jobs. For the vast majority of American adults, manufacturing remains the sole route to a high-wage job.

Trumponomics argues that America also needs manufacturing for the purpose of national security. It cannot afford to have its defence sector rely heavily on imports of steel, aluminium, and semi-conductors. In a crisis, American military capabilities could be seriously compromised. As Mr. Trump puts it, “If you don’t have steel, you don’t have a country”.

A second key proposition of Trumponomics is that free trade is not necessarily fair trade. Imports from China are cheaper because China provides subsidies to its firms in various forms, uses slave labour to drive down costs, invests funds in state-owned technology companies, and indulges in industrial espionage and theft of intellectual property. It makes no sense to have American companies wiped out by competitors that do not adhere to the rules of a free market economy.

The third proposition is that America’s chronic trade deficits are unaffordable as the flip side is foreigners using their trade surpluses to acquire more and more American assets. In recent years, trade deficits have been of the order of $500 billion to $1 trillion a year.

Trade deficits are said to be self-correcting. When a country runs a trade deficit, the exchange rate of its currency is expected to depreciate. Exports will then rise and imports will fall, leading to a reduction in the trade deficit. Mr. Miran argues that the principle does not apply to the U.S. economy because the dollar happens to be the world’s reserve currency. Nations park much of their foreign exchange reserves in U.S. government securities. This results in an overvalued dollar.

An overvalued dollar means more imports, less exports and hence a persistent trade deficit. As Mr. Miran puts it, America runs a trade deficit not because it imports more; it imports more because it is the provider of reserve currency to the world.

Impetus for domestic manufacturing

How to restore manufacturing to the U.S. and reduce America’s trade deficit when faced with “unfair” trade and an overvalued dollar? Enter tariffs on imports. Tariffs will raise the cost of imports and cause imports to fall, thereby reducing the trade deficit. They will spur domestic manufacturing by protecting American manufacturers from import competition.

Economists fret that tariffs run counter to the principle of economic efficiency. Tariffs, they say, will spell higher costs for American consumers, an increase in the inflation rate and an inefficient manufacturing sector. Trumponomics says these concerns are based on first-round effects. Look farther and the outcomes change.

By raising the cost of imports, tariffs will result in fewer imports. A fall in imports will result in an appreciation of the dollar. If the “currency offset” to tariffs is perfect — say, a 10% tariff is offset by a 10% appreciation in the dollar — the dollar price of imports after tariffs will remain unchanged. The American consumer does not pay anything extra. Since the exporting country’s currency has weakened, it earns fewer dollars than it did earlier.

Mr. Trump has been ridiculed widely for saying that the exporting nation, and not the American consumer, will pay for U.S. tariffs. Once you take into account the currency offset to tariffs, Mr. Trump’s statement makes terrific sense.

To be sure, if the currency offset is not perfect, there will be costs to the American consumer and an increase in the inflation rate. Mr. Miran estimates a one-time impact on the inflation rate of about 0.3-0.6 percentage points, an impact that is eminently bearable. This assumes there are no retaliatory tariffs.

Tariffs can lead on to other favourable second-round effects. As input costs rise, American manufacturers will look for ways to enhance efficiency and lower costs. Tariffs will compel American and foreign companies to move operations to the U.S. and this will enhance efficiency and output in the U.S. economy. There are signs that major U.S. companies are already making such a move.

The other ‘Trump cards’

More importantly, tariffs are but one of four elements in Trumponomics. There are three other elements: tax cuts, deregulation and more drilling of oil. Tax cuts, made possible by tariff revenues, will compensate companies for the higher costs of imports. Deregulation will drastically reduce compliance and operational costs. More drilling of oil will help lower oil prices and counter the inflationary effects of tariffs. Taken together, the four elements constitute a plausible alternative to the current economic model.

Trumponomics is driven by the principle that efficiency cannot be the sole or even overriding consideration in economic policy-making, a principle that India’s policymakers had wisely embraced decades ago. Mr. Trump’s detractors believe that he has embarked on Mission Impossible. Well, Mr. Trump does not think so. He is determined to pursue his vision of MAGA (Make America Great Again) regardless of the short-term cost to the U.S.. As for the rest of the world, Mr. Trump does not give a damn.

Did the bond market really humble Donald Trump? Well, the the story doesn't wash.

Within hours of 'Liberation Day' day reciprocal tariffs going into effect on April 9, President Trump announced a 90-day pause on reciprocal tariffs on all countries except China. The baseline tariff of 10 per cent would stay as would the tariff of 25 per cent on aluminium, steel and autos.

Market analysts celebrated Trump's supposed retreat as a triumph of the bond market. They said that there was a bond market sell-off prompted by fears of stagflation brought on by Trump's tariffs. Bond market yields started rising. This raised concerns about a possible financial meltdown. 

How would such a meltdown happen? Well, one reason would be that government bonds are pledged as collateral in various trades. When bond prices fall, margin calls go up. To fund the margins, traders have to stump up cash. They would do so by selling government bonds which are the most liquid securities one can have. That would cause a further fall in bond prices, more margin calls.... a vicious spiral would emerge.

There are various other trades that could lead to the same outcome. The Economist explains these very well. 

Plausible as the explanation seems, there are serious flaws in it:

i.  Government bond yields can rise any time, sometimes very sharply. Does that mean that every time that happens, we would have a financial crisis because government bonds are pledged as collateral in trades? 

ii. Trump announced his pause on April 9. Yields did not fall immediately thereafter. The yields on on 10 year US government bonds actually rose from 4.39 per cent on April 9 to 4.49 per cent on April 11. They have since fallen to 4.33 per cent. The pause is not a material change in the tariff situation, by any stretch of imagination. Apart from the tariffs that remain in place, the tariff war between the two principal economies, US and China, has escalated to a point where Trump has announced a 245 per cent on Chinese imports! I cannot see how the 90-day pause can be construed as a win for the bond market.

iii. There had been a much bigger jump in 10-year bond yields earlier. The 10-year yield jumped from 4.18 per cent on 4.18 per cent  on December 5, 2024 before the results of the presidential elections were known to 4.8 per cent on January 13, 2025, ten days before Trump was sworn in as President. It was a much bigger jump that what we saw around Lberation Day- from 3.99 per cent on April 4 to 4.39 per cent on April 9. We should have had a financial meltdown in January if the story about rising bond yields is true.

Trump seems to have sensed that there was no tearing hurry for him to take on all economies at one go. Better to focus on the main problem, China. If that brought comfort to the markets and calmed things down for a while, it was welcome. There doesn't seem to anything more to the pause. 

The bond market story is a convenient stick with which to beat Trump- it serves the purpose of showing up Trump as an ignoramus who understands little about how markets work. Well, that's a pretty stupid assumption to make about a billionaire businessman. 

Is Trump right on tariffs? Will he bring it off?

President Trump announced a 90 day pause on reciprocal tariffs last week for all countires except Chiina. Analysts were quick to construe it as a big defeat for Trump handed out by the bond market. A selloff of bonds and rising bond market yields at a time when equities were also being sold portended a major financial crisi, they say, causing Trump to back off.

Sorry, it doesn't mean a retreat from Trump's basic position on tariffs, namely, that tariffs are needed to protect the US economy from "unfair" trade where countries rig their currencies, have higher tariff barriers than the US, use non-tariff barriers in a variety of ways, provide massive subsidies to domestic companies, etc. Nor has Trump resiled from his position that America's chronic trade deficits are unsustainable.

Trump has a reasoned position on tariffs, one that reflects his convictions of several decades. He will not give up on them. He is likely to calibrate tariffs in a way that will not cause too much turmoil in the financial markets.

I explain some of the popular perceptions about the ongoing tariff war in my recent BS article, Trump tariffs: who will have the last laugh?

Trump tariffs: Who will have the last laugh?

T T Ram Mohan

Mr Trump may temper his approach from time to time, but to think that he will change his basic philosophy is delusional

US President Donald Trump’s tariff policy caused stock markets to tumble and sent shock waves through the world’s political capitals. Commentators warned of stagflation in the US and a collapse of global economic growth.  Mr Trump has since announced a 90-day pause on reciprocal tariffs on all countries except China, which faces a tariff of 125 per cent. 

However, the baseline tariff of 10 per cent remains. So do the tariffs of 25 per cent on aluminium and steel imports, and on the 25 per cent tariff on the automobile sector.  The relief over the pause on reciprocal tariffs is understandable. But there’s no getting away from the fact that the baseline tariff of 10 per cent is way above America’s earlier average tariff rate of 2.8 per cent.   

The period ahead promises an answer to a most fascinating question. In matters of economic policy, what matters more- the instinct of the charismatic politician or the theories of academics? Will Mr Trump prevail in his attempt to restore manufacturing to the US and reduce America’s chronic trade deficits? Or will he leave behind a legacy of economic ruin?

In addressing these questions, it’s useful to examine some of the propositions one hears in public discourse.

i.Mr Trump is just a crude, bullying politician who acts on impulse and not through rigorous reasoning. He understands little of economics. 

Crudity and bullying are hardly novelties in a President of the United States. The notion that Mr Trump is an uninformed person is ridiculous. You don’t become a billionaire and President of the United States twice –the first time without any experience in politics- by being a country bumpkin. 

Economists Arthur Laffer and Stephen Moore, who have been advisors to Mr Trump during his two presidential bids, have together authored a book, The Trump economic miracle and the plan to unleash prosperity again (2024). They write, “Trump is not the person the media has so unfairly portrayed. He is certainly not the villain, conniving and intellectually shallow man that his adversaries have portrayed him as since the day he first announced he was running for president back in 2015.” In another place, they remark, “Trump has what we call ‘Street Smart Economics’”. Mr Trump’s detractors will wince, but it’s good to know that some very bright people have a different view.

Mr Trump has an impressive economic team. His Treasury Secretary, Scott Bessent, is a legendary fund manager reputed  for his grasp of the macroeconomy- he was a member of the Soros team that betted against the pound in 1992. Peter Navarro, who advises Mr Trump on trade, is a Harvard PhD and a former professor at the University of California (Irvine). Stephen Miran, chairman of the Council of Economic Advisers, is also a Harvard PhD with experience in the financial markets. Mr Trump will not lack sound economic advice.

   ii.            Mr Trump’s tariffs go against the principle of free trade that has ushered in growth and prosperity, especially in the post-World War II  (WWII) world.

Mr Trump believes that free trade is something of a myth- and many economists would agree. The great economic powers of the 19th century, including the US and Britain, achieved growth, not through free trade, but behind protectionist walls. They pushed the idea of free trade when they needed to access the markets of other nations. 

The post-WWII world is not quite one when where firms compete on their own on a level playing field. What we have had is “industrial policy”, which includes support to domestic firms through subsidies and non-tariff barriers, not just tariffs. The US funds research at universities that leads on to breakthrough innovations, such as the Internet. American firms benefit at public cost. The East Asian Tigers grew on the back of targeted support to particular firms and sectors. China remains a leading exponent of industrial policy even today.  Free trade is not fair trade, as Mr Trump is fond of saying.  

iii.            If the version of free trade we have had in the past decades has brought prosperity to America, why disrupt it?  

Numbers such as the gross domestic product (GDP) growth rate or increase in per capita income can be deceptive. They don’t capture the fact that the benefits of so-called free trade are unevenly distributed. That is certainly true of the US. 

 Robert Lighthizer, who led the assault on free trade in Mr Trump’s first term, says that in the 16 years before China joined the World Trade Organization, real median household income in the United States (measured in 2019 dollars) rose from $53,337 in 1984 to $63,292 in 2000. Thereafter, real median household income fell below the 2000 level and remained it in every year until 2016, when Mr Trump first became President. Even in 2016, it only reached $63,683 (an increase of less than $400 in 16 years).  The US economy grew but the average person lost out. 

When Mr Trump stepped down in 2020, median real family income was up by 6.8 per cent. Economists ascribe the increase to Mr Trump’s notable initiatives such as tariffs on Chinese imports, the renegotiation of NAFTA and the tax cuts of 2017. Together, Mr Lighthizer says, Mr Trump’s initiatives caused thousands of manufacturing jobs to return in his first term. That is the source of Mr Trump’s appeal to the American middle class, and it explains his electoral triumphs in 2016 and 2024. 

iv.            The tariffs announced by Mr Trump are a negotiating tactic and will be rolled back once America’s partners enter into negotiations. 

Mr Trump has indicated that he is open to negotiating reciprocal tariffs with America’s trade partners. The 90-day pause is intended for that purpose. However, the baseline tariff of 10 per cent is a different matter altogether. Mr Trump thinks American needs manufacturing not just for creating jobs for ordinary Americans but for purposes of national security. It cannot afford to depend on imports of pharmaceuticals, ships, steel, aluminium, semiconductors. That’s why the baseline tariff and tariffs on aluminium, steel and automobiles stay. Tariffs on other products, such as pharmaceuticals, may well follow. 

 Mr Trump views tariffs as a means of raising revenues with which he can reduce taxes at home. All taxes are a form of inefficiency, but tariffs, some economists argue, are less harmful than taxes on corporations and individuals. Mr Trump sees tariffs as penalising other nations while relieving the burden on American taxpayers. 

 In sum, tariffs are integral to Mr Trump’s vision for the US economy. Mr Trump may temper his approach from time to time in response to convulsions in the financial markets. But to think that he will change his basic philosophy is delusional. 

America's 25 per cent tariff on auto imports are justified

Trump's latest move on tariffs is to impose a 25 per cent tariff on all auto imports, including parts. This article makes the case with great clarity.

The problem for US exports to the EU is that these are subject to VAT. Exports of EU countries, including from one EU country to another, get a VAT rebate. EU exports to the US would, of course, qualifyi for the VAT rebate. VAT is generally 21 per cent. American car makers pay domestic tax and a further VAT on exports to US. The author estimates that, to offset the disadvantage American exporters face in the EU, a tariff of 25 per cent is in order.

That's exactly what Trump is imposing. Whether a like tariff can be justified on exports from Asia and North America is not clear. But it certainly fits in with Trump's grand plan to bring manufacturing back to the US. 

Trump posted on Social Truth:

For years we have been ripped off by very country in the world, friend or foe. But those days are over-Ameica First!!

He has a point at least where the EU is concerned.

Central banks have won the battle against inflation

 

As inflation soared to levels unknown in decades in two years ago, central banks came in for severe criticism for not reining in demand earlier.  Bring inflation down to target would mean a huge sacrifice of growth, critics said.

They have been proved wrong. Inflation has been brought down over the past two years with a modest sacrifice of growth. One has lost count of the number of analysts who said last year that the US economy was sure to slip into recession, if that had not already happened.

Central banks have improved their tool-kit over time. However, as I argue in my recent article in BS, Central banks have the last laugh,  their success in the recent bout of inflation owes to several factors beyond their control.

Central banks have the last laugh

The world economy will grow at 3.2 per cent in 2024 and 2025, says the International Monetary Fund’s (IMF’s) latest Economic Outlook. That is below the 3.6 per cent growth rate seen during 2006-15. Yet, the relief over the growth projections is almost palpable. 

There is relief because  the battle against record levels of global inflation has been won- or so the IMF declares- without as much loss of growth as was feared. Inflation rates are trending down without the global economy going into recession. Commentators who had been critical of central banks’ responses to post-Covid inflation have been proved wrong.  

Global inflation peaked at 9.4 per cent year-over-year in the third quarter of 2022. In the US, the inflation rate rose to 9.1 per cent in June 2022. Since then, inflation rates have been dropping. Global headline inflation rates is now projected to reach 3.5 per cent by the end of 2025,   below the average level of 3.6 per cent between 2000 and 2019. 

As inflation started surging after the Covid-19 pandemic, central banks were roundly criticised for tightening too little and too late. Since central banks were slow to react, critics said, monetary tightening would have to be extremely aggressive. A soft landing was almost impossible.  

Central banks have also been faulted for being slow to loosen monetary policy when the inflation rate began to decline, and growth was seen to be faltering. Might they have done anything differently? Since the actions of central banks were broadly synchronised, let us focus on the actions of the US Federal Reserve.

The pandemic was correctly seen as giving rise to a supply shock as well as a demand shock.  Monetary (and fiscal) policies to boost demand were entirely appropriate.   Expansionary policy caused the inflation rate in the US to rise above the target rate of 2 per cent in March 2021. 

Once the pandemic-induced restrictions were progressively removed through the second half of 2021, producers found it difficult to ramp up output due to supply chain disruptions. Demand ran ahead of supply, the US inflation rate surged.  There was an expectation that as supply bottlenecks eased, inflation would come under control. In any case, the Fed could not have been expected to tighten policy when the pandemic was still raging.

By December 2021, the inflation rate in the US had touched 7 per cent.  Just as central banks were preparing to tighten policy in early 2022, there came another shock-- the onset of conflict in Ukraine in February that year. Oil prices rose sharply amid expectations that the oil market would be severely disrupted. Inflation in the US shot up to 7.9 per cent in February. By mid-2022, global inflation had tripled relative to its pre-pandemic level. 

The Fed commenced tightening from mid-March 2022, with a 25 basis points (bps) increase in the policy rate. By June 2022, the policy rate in the US had jumped by 150 bps. By July 2023, the rate had gone up by more than five percentage points. Should the Fed and other central banks have tightened even more and even earlier in response to the Ukraine conflict? 

The short answer is that central banks’ responses to such events can only be tentative.  Could anybody have imagined that the conflict in Ukraine would go on for over two years? And that, two years into the conflict, oil prices would be contained at below $80 a barrel, thanks in part to the EU/NATO-imposed price cap on oil imports from Russia?  How much to tighten monetary policy and at what pace in response to such events can only remain in the realm of guesswork.

Suppose the Fed had indeed tightened earlier. What might have happened? The IMF’s Outlook uses a model to examine the outcomes had the Fed tightened three quarters earlier than observed. It finds that peak inflation would have been 2 percentage points lower than what was observed. However, real gross domestic product (GDP) would have been 0.2 percentage points lower. The model suggests that the Fed got the timing right.

 Inflation in the US stayed above 5 per cent until March 2023. Even last September, it was above the target rate of 2 per cent. The conventional wisdom is that when inflation stays high for so long, it is very difficult to get the inflation rate to fall without a substantial sacrifice of growth. Yet the sacrifice of growth has been minimal. 

There are several explanations for this seeming miracle. 

First, as the IMF points out, inflation expectations stayed “anchored”, that is, people did not change their long-term expectations. One can only speculate as to why this happened. It may well be that the credibility of central banks has gone up in recent years.  Economic agents may have seen the pandemic and the deviations from the inflation target that happened as a black swan event.    They may have believed that central banks had the competence to bring inflation to heel sooner rather than later.

Secondly, the Phillips curve appears to have steepened during the high inflation period. This implies that any monetary tightening and the economic slack it creates would result in a greater reduction in inflation than when the Phillips curve is flatter. Central banks end up producing better results than in normal times.   But then how on earth are central banks to anticipate the steepening of the Phillips curve in such times?

Thirdly, high inflation rates did not trigger a wage-price spiral that would have rendered the inflation rate stubborn. One reason certainly is that the power of trade unions in the advanced economies has declined  and workers have less bargaining power. 

Fourthly, the increase in commodity prices was less than, say, during the oil shock of the 1970s, and the energy-intensity of economies itself has declined. Inflation caused by commodity shocks is intrinsically less of a problem today, and a lighter hand is needed to deal with it. It is fair to say central banks have been helped by a combination of favourable factors.

One issue remains. Should central banks have started cutting rates even earlier? Well, with the geopolitical risks that we face, central banks have to tread warily. The conflicts in Ukraine and West Asia have escalated. Either could have spun out of control –and still can. The American presidential elections have posed their own uncertainties. No central bank wants to loosen policy only to tighten soon thereafter.

 Getting policy right in the face of so many imponderables will always be a challenge. In the present round, central banks have had the last laugh. Whether their success is due to tactical genius or pure serendipity is anybody’s guess. 

 

Middle East conflict and the global economy

It hasn't happened since the Ukraine conflict erupted in February 2022. It hasn't happened since the Gaza conflict erupted in October 2023?  Will events in the Middle East now derail the global economy? One obvious way they could is by causing oil prices to shoot past the $100 barrel a mark.

Let us see if we can list a few facts:

i. Israel is not interested in a cease-fire in Gaza, much less in a two state solution

ii. Israel thinks it has a good chance of eliminating Hezbollah, the Lebanon-based militia or at least reducing it to a point where it cannot interfere with events in Gaza

iii. Israel also thinks that in order to degrade Hezbollah, it has to deliver damaging blows to Iran

iv. Israel thinks it has the US behind it, wintess the latest US decision to deliver the THAD anti-missile system to Israel and have it manned by American technicians.

The four above mean an escalation in the conflict and a prolonged conflict. Will the oil market remain unscathed in such a scenario? It's not just a matter of enough oil supply being available outside Iran. If Iran's supplies are disrupted, Iran is not going to allow other oil supplies to go through. When Israel attacks Iran, it has to deliver a blow powerful enough to deter Iran from any sort of retaliation. I leave it to military experts to judge if that is possible.

The prospect of an escalation in the Middle East and higher oil prices has obvious implication for the Indian economy. That is the subject of my article in BS, India's economic growth faces two risks and two key challenges.

FINGER ON THE PULSE
T T RAM MOHAN

The finance ministry’s latest Review of the economy, which came out on September 26, exuded confidence about the Indian economy being able to meet the Economic Survey’s growth forecast of 6.5-7 per cent in FY 25. Some two weeks later, the prospect of the forecast being upended by global events is very real. 

Oil prices are hovering around $80 a barrel for Brent crude, an increase of 16 per cent from the September low.  The Indian economy can take the increase in its stride. However, if events in the world at large were to push the price of oil beyond $100, we will have to start worrying.

“Nothing new there,” optimists would argue. “The world has shrugged off worries about oil prices for over 30 months since February 2022, when Russia commenced its military operations in Ukraine.” In June 2022, the price of oil went up to around $120 a barrel. From July 2022 onwards, oil prices have stayed below $100, with prices staying below $80 for the most part.  

Two factors contributed to this remarkable outcome. One, the North Atlantic Treaty Organization (Nato) and the European Union (EU) imposed a price cap of $60 on oil purchased from Russia while also  reducing dependence on oil supplies from Russia. The cap turned out to be quite effective. 

Two, the doctrine of “managed escalation” has played out well. According to this doctrine, Nato would progressively equip Ukraine to effectively fight Russia. Each step on the escalatory ladder would be managed so that Nato itself was not drawn into a direct conflict with Russia. Escalation has been managed,   the war in Ukraine has not derailed the world economy.

The same doctrine has been applied to the conflict between Israel and the Axis of Resistance (comprising Iran and its proxies, such as Hezbollah, Hamas and the Houthis). For over a year now, Israel has been trading fire with Hezbollah on its northern border with Lebanon. These exchanges have been confined to a narrow strip on either side of the border, with casualties on both sides staying within limits. Iran and Israel have engaged in tit-for-tat missile exchanges, inflicting damage that both sides find acceptable. 

“Managed escalation” always carries the risk of miscalculation or error- at some point, one party or both parties can cross tolerable limits. The issue now – and this is where optimists would be mistaken- is not so much miscalculation as cold calculation on Israel’s part. With the successes Israel has had against Hezbollah in recent weeks, Prime Minister Benjamin  Netanyahu believes the time has come to “change the Middle East.” There is the  (prospect?- ok) not only of escalation but of a prolonged campaign.  

A probable Trump victory in November heightens the implied risk. Following Iran’s missile attack on Israel, Mr Trump wants Israel to go after Iran’s nuclear facilities.  While Mr Trump may well be posturing in the run-up to the polls in early November, his known hawkishness on Iran poses clear risks for West Asia and the world economy.

There is another risk that a Trump victory poses, one about which there seems to be less ambiguity. Mr Trump promises sweeping cuts in taxes for corporations as well as individuals, higher tariffs and substantial deregulation. He sees the tax cuts as paying for themselves by boosting growth, but many economists are sceptical. They think the tax cuts will result in wider deficits, an increase in public debt, and slower US growth down the road.  

Mr Trump has promised a tariff of 20 per cent on all imports and a tariff of 60 per cent on Chinese goods. Mr Trump sees higher tariffs not just as protecting US manufacturing but as paying for the tax cuts he has in mind. Economists have raised a howl but many American business leaders think Mr Trump has got it right. Whatever the long-term impact, there is little doubt that Mr Trump’s policies will be disruptive for the world economy in the short term. 

The two risks apply to the world economy as a whole. Apart from these, there are two challenges that are specific to India.

One relates to foreign direct investment (FDI). Net FDI (item 1 in the accompanying table), which is the FDI inflows minus FDI outflows, fell by over $28 billion in 2023-24 compared to 2021-22. The Review says that this is because repatriation of profits (item 4) surged considerably in 2023-24. It says this is not a bad thing because it assures foreign investors of an exit route for profits made in the country. 

However, repatriation of profits is not the only factor dragging down net FDI flows. Gross inflows of FDI (item 3) have fallen steeply from $85 billion in 2021-22 to $71 billion in 2023-24.  The Review argues that FDI flows to emerging markets as a whole have fallen by 15 per cent in 2023 and India is likewise affected. But if India is positioning itself as an alternative to China for FDI, this should not be happening. 

Some analysts contend that the fall in gross FDI has to do with India’s scrapping of bilateral investment treaties that allowed for third-party arbitration of disputes. The change, they say, has made foreign investors nervous. Maybe. Or it may well be that FDI has fallen for the same reasons that private domestic investment has not picked up in recent years. If gross FDI does not rebound strongly in FY25, we would need to be concerned.   

The second challenge, which is relatively short-term in nature, is with respect to foreign institutional investment (FII) flows. FIIs invested $44 billion in India in 2023-24. FII inflows in the April- July quarter of FY25 have fallen to $6.3 billion, from $20.5 billion in the same period of FY24.  Analysts say this is to be expected as Indian stocks are overvalued. There has also been a huge switch of funds to Chinese stocks, given the low valuations in that market. This shift is said to have increased in recent weeks following the stimulus to the Chinese economy. 

A fall in capital flows, combined with oil prices exceeding over $100, is not the best place for the Indian economy to be in. Happily, India’s external position today is strong enough to cope with such a scenario. However, higher oil prices and disruptions in the world economy could   undermine growth projections.  

India has had considerable success over the years in dealing with the sources of instability within the economy. The threats to growth and stability now emanate from outside- geopolitical risks, rising protectionism, and banking instability in the West.