On April 2nd (nicknamed “Liberation Day” by President Donald Trump), the announcement of “reciprocal tariffs” might raise the effective rate on American imports to the highest level in over 100 years. Even before its implementation, the proposal for such a significant increase in tariff barriers has already reignited the debate on why this type of policy lost prominence in the past — and why it is now reemerging with force in the current scenario.
A brief history of international trade
Until the 18th century, international trade was conceived as a competition for resources (notably precious metals), following the principles of mercantilism. For this reason, the economic policies implemented by national states were highly protectionist: high tariffs on imported goods, subsidies to manufacturing and exports, and laws that favored the formation and maintenance of monopolies.
The origins of modern economic thought on international trade emerged only at the end of the century, from the studies of Adam Smith (1776), who advocated specialization and productivity as the true sources of nations' wealth. In the following years, David Ricardo (1817) formalized these ideas through the theory of comparative advantage, which showed how free trade allows productivity gains by directing each country's productive resources to the activities in which they are most efficient.
Despite the advances in economic theory on the subject, the widespread use of trade barriers remained present over the years. The British Empire instituted the Corn Laws in the 19th century to protect its farmers, while the United States and Germany imposed various tariffs¹ to protect their industries. Only in the 1930s, following the adoption of the Smoot-Hawley Tariff Act, which imposed tariffs on more than 20,000 goods, raising the effective tariff rate on imports from 13.5% to 20% (recognized as a factor that worsened the Great Depression), did the negative effects of such measures become evident.
After World War II, the US emerged as the main leader among capitalist democracies in a devastated world, radically altering the guidelines of foreign policy. The focus shifted to international cooperation as a means of promoting economic stability and peace among nations ("Pax Americana"). For this purpose, pacts such as the Bretton Woods system (1944)² and the General Agreement on Tariffs and Trade (1947)³ were established.
Although protectionist measures continued to exist, the focus shifted to non-tariff policies (such as quotas, subsidies, and trade sanctions), except in specific cases. This period was also marked by the emergence of regional trade agreements, such as the North American Free Trade Agreement (NAFTA, 1994)4, the European Union (1993), and the Southern Common Market (Mercosur, 1991).
The "academic consensus" on trade and tariffs
The dominant current in modern economic thought argues that free trade tends to be beneficial for all countries involved, especially the less productive ones, by allowing each nation to (i) focus on producing what it does relatively well — that is, where it has comparative advantages — and (ii) achieve economies of scale by expanding production in certain activities. By concentrating their resources in the most efficient areas, each country can produce more value than if they tried to manufacture everything they consume domestically, using this surplus to finance the import of goods (usually cheaper) in the international market. This tends to enhance global welfare and the individual performance of each economy.
“The most important fact about a free market is that no exchange takes place unless both parties benefit.” - Milton Friedman in Free to Choose (1980)
However, the hypothesis that trade benefits countries does not mean that all individuals benefit. On the contrary, trade liberalization almost always creates winners and losers, shifting income from less competitive sectors to more efficient ones.
These effects hit the least mobile factors of production the hardest (those that have difficulty moving from losing sectors to winning ones), which implies adverse effects for some capital holders and a portion of the workforce. Additionally, changes in the production matrix can also affect the demand for inputs in other sectors, generating chain effects.
Despite the adverse effects, the vast majority of scientific studies favor trade liberalization as an alternative with more benefits than harm. Mainly because the aggregate gains are usually sufficient to compensate for the eventual costs of implementing support measures for those harmed by trade, such as unemployment insurance and subsidized retraining and relocation programs.
It is worth mentioning that these adverse effects are not inherent only to international trade. Factors such as technological advancement, changes in consumption patterns, and resource depletion can also cause similar effects.
In contrast, import tariffs are the oldest form of trade policy and have historically been used as a way to protect domestic producers and increase government revenue. This type of measure tends to reduce the difference between equilibrium prices in domestic and foreign markets, raising prices in the domestic market while reducing prices in the global market. However, these effects depend on a series of assumptions and generate great uncertainty beforehand.
From the perspective of the country imposing the tariff, the price increase favors local producers but comes at the expense of consumers' welfare, who end up paying more for products. At the same time, taxation on imports increases tax revenue, financially benefiting the government. From the exporters' perspective, the tariff acts similarly to an increase in transportation costs: by making access to the market of the taxing country more expensive, it tends to reduce the demand for their products. This effect is more significant when the country imposing tariffs has a substantial share of global trade.
Consequently, the drop in demand may force exporters to lower their prices in the international market. In this case, part of the initial loss suffered by consumers in the country that applied the tariff would be offset by the reduction in global prices – which, in turn, decreases the exporters' revenue.
In addition to the direct effects mentioned, this type of measure can also lead to a series of negative externalities, such as retaliations from trade partners (through the imposition of new tariffs, for example), the formation of lobbies (which may turn temporary policies into permanent ones), and the creation of allocative distortions (typically employed by market agents as ways to mitigate the impact of taxation).
It is worth noting that indiscriminate taxation of imported goods can affect not only the prices of final consumer goods in a country but also the inputs used in domestic production. This can be particularly adverse for economies that specialize in higher value-added products, which are typically associated with the final stages of global value chains. In such cases, rising input prices — assuming some degree of cost pass through, can raise the prices of exported goods, reducing the country’s competitiveness in the international market and potentially diminishing its exports.
Given all this, the academic literature tends to support the use of this type of policy only in specific situations, and usually on a temporary basis — to respond to unfair competition policies adopted by other countries or to address issues of a less strictly “economic” nature, such as national security and sovereignty, for example.
Potential effects of "Liberation Day"
Claiming that the persistent bilateral trade deficits of the United States are the result of "a combination of tariff and non-tariff factors that prevent trade balance," the U.S. president resorted to the International Emergency Economic Powers Act of 1977 (IEEPA) to impose (i) a minimum tariff of 10% on all imports and (ii) higher "reciprocal tariffs" on countries with which the United States maintains the largest trade deficits, excluding products – generally associated with other tariff measures – such as items subject to Section 50 USC 1702(b); steel/aluminum and automobiles/auto parts (subject to Section 232); copper articles, pharmaceuticals, semiconductors, lumber, precious metals, energy and other specific minerals unavailable in the U.S., as well as any other articles that may be included in future tariffs under Section 232.
According to documents later presented by the Office of the United States Trade Representative (USTR), the individualized rates were estimated to halve the bilateral deficits of the U.S. with each of its trading partners. The equation presented describes that the tariff shock (i.e., the rate change) necessary to balance bilateral trade balances would be given by the ratio between net exports (total exports in 2024 minus imports in the same period) and the total U.S. imports from each country, considering the elasticities of imports relative to prices (ε = 4) and the pass-through of the tariff rate to the prices of imported goods (φ = 0.25). It is noteworthy that the net result of these two estimates has a neutral effect on the equation (4 x 0.25 = 1), causing the result to reflect only the bilateral deficit as a proportion of each country's imports.
Assuming the stability in the composition of trading partners in the total U.S. imports (based on 2024 data), the estimated impact on the effective tariff after the April 2 announcement would be approximately 25 percentage points, disregarding exclusions. However, this estimate can vary depending on the elasticity of consumer demand concerning the price variation of imported goods, which should reduce the share of exporters affected by higher rates in the total U.S. imports.
China is the most emblematic example: its tariff rose from 34% announced on April 2 to 145%, after responding with retaliatory measures. For other countries, tariffs above 10% were temporarily suspended (except for Canada and Mexico, whose rates were set at 25% earlier, although subject to various exclusions related to the USMCA), due to "advances in negotiations" – interestingly, amid a sharp deterioration in the financial market.
If the hypothesis of import stability for the current scenario is maintained, the impact on the average tariff would rise to over 30%. However, it is widely agreed that the rates imposed by the two countries make any direct trade relationship between the U.S. and China practically unviable, which would lead to a much more moderate rate increase. Even so, replacing Chinese imports, whether by domestic production or by imports from other countries, would still result in some inflationary pressure.
Furthermore, the pressure on imported goods prices could be even higher considering the recent behavior of the U.S. Dollar, which – contrary to traditional model hypotheses, as we saw in the previous section – registered a significant depreciation since the announcement of the new tariffs.
Depreciation may have been exacerbated by the already high starting point (read “expensive”) of the American currency — about two standard deviations above the historical average of the last 60 years in real effective terms. However, the particularly intense depreciation compared to other hard currencies vis-a-vis emerging market currencies reinforces the narrative that investors are increasingly seeking alternatives to the US market.
In any case, whatever the reasons behind the movement, the practical impact is clear: imports become even more expensive, putting pressure on inflation and reducing consumers' purchasing power, which in turn also increases negative risks for economic growth.
Although members of the US government have indicated that tariffs may fall after negotiations, the unpredictability of the policies adopted so far already imposes costs. Increased uncertainty regarding the economic cycle leads companies and consumers to delay investment and consumption decisions (especially of durable goods), while market volatility affects financial conditions, which in turn impacts the real economy.
Motives of Trump and the Risk to Dollar Hegemony
Among speeches and publications, the president and his team have emphasized several points that can be understood as goals of tariff policies, including (i) reducing trade balance deficits, (ii) reducing public account deficits, (iii) attracting investments to expand industrial production in the U.S., and (iv) increasing bargaining power in international negotiations.
Trump seems to interpret the trade deficit as a transfer of income from the United States to other countries, although this has boosted the purchasing power of American consumers for decades. Furthermore, global demand for dollars has remained virtually unlimited, despite persistent current account and public deficits. This ability to finance oneself at low cost in its own currency (a privilege exclusive to the United States on the observed scale) has become known as the "exorbitant privilege."5
Barry Eichengreen explores this phenomenon in his book of the same name. According to him, the rise of the Dollar begins at the end of World War I and solidifies after World War II through the Bretton Woods system. In this way, the United States became disproportionately influential—not only in international trade but also in global geopolitics. The author argues that the resilience of the currency as the world's primary reserve of value is explained by the liquidity of the American financial market, institutional trust, and the absence of viable alternatives.
From this perspective, combating the trade deficit (restricting the supply of dollars to the rest of the world) and destabilizing international agreements (risking the institutional credibility of the U.S.) could jeopardize this privilege. In such a case, imbalances in external and public accounts would tend to exert more adverse effects. It would also be natural to observe an increase in risk premiums embedded in American financial assets, which aligns with the relative performance of various assets since Liberation Day, even though price fluctuations may be erratic in the short term.
On the other hand, in an article published at the end of last year, Stephen Miran, president of the Council of Economic Advisors at the White House, argues that the exorbitant privilege comes with costs, particularly through currency appreciation. In this sense, the "umbrella" of global security (the role of "world police" exercised by the United States) and the provision of the global reserve currency (which facilitates international trade between countries) can be interpreted as public goods subsidized by the U.S., which, therefore, should be compensated. This compensation, according to him, could come through import tariffs, foreign investments in factories in the U.S., opening markets for American products, and increasing domestic spending on defense. Similarly, currency depreciation could also result from coordinated actions, in a movement similar to the Plaza Accord (“Mar-a-Lago Accord”).6
An important point in this line of argument is that potential adverse effects caused by the measures could be justified by the protection of strategic sectors, linking trade policy to national security. This is because losing industrial capacity and relying on more dispersed supply chains worldwide would increase dependence on external suppliers for inputs in areas such as public health (including components for drug production) and security (like the manufacturing of armaments).
In addition to these sectors, the American government also seems interested in expanding the technology industry—including themes like artificial intelligence and robotics—even though the high uncertainty associated with implementing new policies seems unfavorable to attracting private investment, at least in the short term. In any case, even if successful, a significant part of the industry's expansion would occur in sectors with lower added value, contradicting the trend observed in recent decades. In this scenario, a large portion of the jobs created would likely demand a lower level of qualification and offer lower salaries compared to other more competitive segments of the American productive matrix.
In summary, the current scenario seems to raise more questions than answers. The heightened uncertainty tends to reflect greater short-term volatility but could also signal the possibility of structural transformations in the coming years. The hypothesis of a potential reduction in the growth differential of the U.S. compared to other developed economies—part of the so-called "American exceptionalism"—supports the argument for a reassessment of geographic allocation in global portfolios. However, any movement in this direction requires caution and gradual implementation to mitigate the risk that short-term fluctuations result in permanent losses.
Footnote:
1. Examples: Dallas Tariff (1816), Tariff of Abominations (1828), Morrill Tariff (1861), and McKinley Tariff (1890).
2. The conference established the gold standard and created the International Monetary Fund and the World Bank.
3. The GATT set trade rules until it was replaced by the WTO in 1995.
4. Replaced in 2020 by the United States–Mexico–Canada Agreement (USMCA) after negotiations during Donald Trump's first term.
5. Term coined by the then French Finance Minister, Valéry Giscard d’Estaing, in the 1960s.
6. International agreement to depreciate the dollar and reduce the U.S. trade deficit in 1985.
Bibliography
EICHENGREEN, Barry. Exorbitant Privilege: The Rise and Fall of the Dollar and the Future of the International Monetary System. Oxford University Press, 2010.
MELITZ, Marc; OBSTFELD, Maurice; KRUGMAN, Paul. International Economics: Theory & Policy. Ninth Edition. Pearson, 2012.
MIRAN, Stephen. A User’s Guide to Restructuring the Global Trading System. Hudson Bay Capital Management, 2024.
THE WHITE HOUSE. “Fact Sheet: President Donald J. Trump Declares National Emergency to Increase our Competitive Edge, Protect our Sovereignty, and Strengthen our National and Economic Security”. Washington, 2 abr. 2025.
UNITED STATES TRADE REPRESENTATIVE (USTR). “Reciprocal Tariff Calculations”.
