The long term damage of Trump's Tariffs

I have mixed emotions on seeing Trump prove me right when he decided to gut the US economy overnight. On one hand I look like a prophet this year by correctly anticipating US economic policy. On the other, I think I would rather have been wrong as we now live in a very different more uncertain and scarier world.  While Trump is currently jumping between cancelling and reinstating the tariffs, I think that the damage has already been done.

What these tariffs are

Trump’s tariff policy has been to introduce ‘Reciprocal tariffs’ against countries worldwide. ‘Reciprocal tariffs’ imply that they are in retaliation against tariffs set by the other country, but this just isn’t the case. The EU was subject to a 20% tariff which is over 4x the EU’s average tariff rate. The retaliation seems to be against countries that have a trade surplus against the US on goods, while conveniently ignoring the trade balance of services. Even if a country has a trade deficit against the US, they have been subject to a minimum 10% tariff as well.  

The calculation to determine the ‘reciprocal tariff’ rate is essentially dividing the trade balance of goods by the value of imports then halving that figure. Looking at US – China trade balance, the US imported $433.8bn from China and exported $141.9bn to them, giving a trade balance of -$291.9 bn. Dividing this figure by imports, $433.8bn and then dividing once more by 2 gives us a figure of 34% which is the tariff imposed by the US against China.

Does this calculation make any sense?

Absolutely not and seems that it was clumsily calculated using AI. The tariffs seem to be organised against regions that have different individual internet domain names rather than countries, which is an odd choice to any human but perhaps something that would occur to AI. Furthermore, despite no economist thinking these tariffs are a good idea, LLM models like chatgpt can suggest tariffs using the same formula when asked how to balance the trade deficit, demonstrating the limits of ability for both Trump’s advisers and AI.

Lesotho is a very poor country that essentially exports diamonds. It buys virtually nothing beyond a few mining vehicles from the US because it needs mainly food and energy. You tend to buy those cheaper from nearby countries. Trump's AI-inspired tariffs saw this as a 99% unfair playing field and imposed tariffs of 50%. Will that tariff encourage Lesothoans to buy Quaker Oats? Will it increase the number of diamond mines in Montana?

The truth is that Trump is not an economist. He appears to have fired all the economists that disagree with him and we must hope that those that remain are sleeper agents for the sane. Many commentators on the market are suggesting that investors should ignore the headlines and stick to their long term strategy of investing. However, this could be just the start of the damage because the root cause, an emotionally stunted and intellectually deficient President has no checks to his power as he chainsaws his way through 90 years of US economic stability. A toddler has taken control of the aeroplane and is insisting he knows how to fly the thing, the question is whether we stay strapped in and assume the plane will land safely like always or whether it’s time to jump and aim for water?

As tariffs, reciprocal tariffs and retaliatory tariffs ratchet higher, most international trade with the US will be severely impacted. The reason that this is so bad is because of the theory of comparative advantage. The US is better at both high tech and making steel than India. But it is a LOT better at high tech. If international trade seizes up and the US has to deploy its resources to make steel, while necessarily losing the high-tech exports to India, it will be poorer. But because of leverage and the multiplier effect, the US and the whole world will be WAY poorer than one might expect. Americans will experience first prices going up (again a lot because it is inefficient to produce all goods domestically). Next, as this automatically hits demand, the redundancies will start. There will then follow a vortex of demand falling, redundancies, further demand falling, further redundancies.

Our depressing victory lap

Since Trump announcing his love of Tariffs in his bid for his second term in office, Staden Financial Management has recommended holding a significant portion of assets in consumer defensive equity allocation. Our reasoning was that tariffs make everything more expensive and everyone poorer. Tariffs increase the cost of imported and locally produced goods. The ultimate consequence is that because goods will now cost more to the consumer, the average consumer will have less money and buy less. Consumer defensive goods are goods which people’s demand for them are resistant to economic factors. They’re the last thing people stop buying during recession, toilet paper, shampoo and toothpaste. Staden FM’s consumer defensive focused strategy has paid off and we’ve allowed our clients to beat the market by resisting some of the dramatic drops we’ve seen.

Our investing focus looking forward

We do not see the damage of these tariffs to be over in the short term and are keeping to our consumer defensive focus in our portfolio recommendations. When investing, we take long term views on the market which exceed 5 years, so while we are bearish on the US in the short term, we believe that the market still has the potential to deliver value long term. We view the next 3 years as a buying opportunity to buy into the markets at a reduced price and currently recommend buying in to the market at regular consistent intervals rather than trying to time the bottom. With that said, we believe that the uncertainty and unpredictability of the US opens the door to Europe and China to emerge as future global investment leaders. Rather than bet on one winner long term, our focus is to invest in all of them to ensure that our clients will take advantage of all market events that may emerge rather than exposing them to any unnecessary risks. Our portfolios this year have been slightly underweight of tech stocks, and we plan to cautiously rebalance into them as they decline in value to pick them up at a discount for the future ahead. In the face of uncertainty we are seeking safety through diversification.