Trump's Trade Scam

Project Syndicate: January 24, 2025

Donald Trump’s second administration is starting where his first ended – with distortions and convoluted logic. Perhaps most notable is his ludicrous proposal for an "External Revenue Service," which, contrary to the president’s claims, would collect tariff revenues from domestic importers, not from foreign producers, as he has long asserted. [Note: This is an edited and shortened version of the January 23 post, “Trump’s External Revenue Service Ruse”]

It’s impossible to predict the outcome of a random experiment. Yet that is the task that awaits us as we try to make sense of another Donald Trump era.

The only observation I dare make in these early days is that Trump 2.0 is starting where Trump 1.0 ended – with distortions, convoluted logic, and the related risk of major policy blunders. While that is hardly a brilliant predictive insight, it gives a fair sense of what we are dealing with.

I could point to any number of actions Trump took on his first day back, but his executive order detailing an “America First Trade Policy” caught my economist’s eye. It touches on the topics I have been writing about for years – trade deficits, unfair trading practices, currency alignments, and, of course, tariffs – and also bears critically on the US and global economic outlook.

Rather than rehash these contentious issues, I prefer to focus on Section 2(b) of this executive order – Trump’s proposal to establish an “External Revenue Service.” A slyly named companion agency to the Internal Revenue Service, America’s tax collecting authority, the ERS would purportedly serve as a repository for the large tariff revenues that Trump insists he will amass from America’s foreign trading partners and channel toward the funding of his ambitious MAGA agenda. The idea is beyond ludicrous.

For starters, it contravenes conventional wisdom about the definition of tariffs and the revenue stream from them. Tariffs, or customs duties, are a tax on foreign goods sold in the US, collected from importers at the port of entry. Yes, tariff revenues rose sharply under Trump 1.0.The US Customs and Border Protection has collected, on average, $79 billion in tariffs per year since Trump first hiked tariffs in 2018, more than double the $37 billion collected in duties between 2013-17. Even so, tariffs have accounted for just 1.8% of total federal revenue over the last seven years.

The Congressional Budget Office estimates that cumulative revenue from tariffs over the next decade will amount to $872 billion, or about 1% of total federal revenue for that period. If that is what Trump imagines will fill the coffers of the ERS, he has overlooked a critical consideration: tariff revenues are collected from America’s domestic importers, not from foreign producers.

The ERS funding issue is, of course, tangential to the long, contentious debate over the potential impact of tariffs. Do importers absorb the associated costs and reduce their profit margins accordingly? Or do they pass those costs on to US consumers, in the form of higher prices? Or do importers push back on their foreign suppliers, forcing them to lower their margins to maintain market share in the US? Or, more likely, is it a combination of all the above?

Regardless of how these questions are answered, the basic point remains: tariffs are still collected from American companies that import foreign goods. The US Treasury has no statutory authority to collect revenue directly from foreign-domiciled enterprises. Trump, the Wharton graduate, has missed that obvious, but critical, point repeatedly.

There is an added wrinkle to Trump’s tariff strategy: its bark may be worse than its bite. The mere threat of such levies could well prompt policy concessions from America’s trading partners. Trump has been transparent on this point, warning Canada and Mexico, for example, of 25% tariffs on all products by February 1 if they don’t control the flow of fentanyl and immigrants into the US.

Trump has made similar threats against China to push for a crackdown on exports of fentanyl precursors and for a deal on TikTok. Yes, the 10% tariff he is threatening to impose on Chinese goods is mere whimper in comparison to the 60% tariff he howled about during his campaign. But the seemingly small new increment comes on top of the current 23% tariff rate China now faces as a legacy from Trump 1.0. Regardless of whether tariffs are deployed to serve a broader deal-making strategy with foreign adversaries, the source of funding for the proposed ERS – domestic US importers – remains the same.

The ERS proposal is only one part of a sweeping executive order that covers everything from trade deficits and currency manipulation to technology transfer and unfair trading practices (such as subsidies and discriminatory extraterritorial taxes). It challenges compliance with existing trade deals, such as the United States-Mexico-Canada Agreement, and it weighs in on several of the most contentious issues with China, including the so-called “Phase I” deal signed in 2020, China’s Permanent Normal Trade Relations status, and allegations of intellectual property theft and supply-chain risks.

In many respects, this executive order resembles the broad instructions that Trump issued in 2017 to Robert Lighthizer, his first US Trade Representative, which set the stage for the tariff war with China that the Trump launched the following year. While US and Chinese media are suggesting that a deal-focused Trump is watering down the contentious tariff plan on which he campaigned, I disagree. His first week in office is eerily reminiscent of the early days of Trump 1.0 – which didn’t exactly culminate with peace and tranquility on the trade front.

Trump’s style of governance, particularly his disruptive grandstanding, exemplifies a dangerous personalization of American policy. From his blanket pardons for January 6 insurrectionists to his withdrawal from the Paris climate agreement and the World Health Organization, and to his move to terminate birthright citizenship, Trump’s performative shock and awe is a marketing strategy for his brand, rather than the result of extensive reflection and consultation with expert advisors.

That was true of US trade policy during Trump’s first term, and it will likely be true of US trade policy during Trump 2.0. The ERS funding scam is a case in point. But Trump’s unpredictability is also essential to his brand, making it impossible to know when a bite will follow a bark. As he infamously instructed the Proud Boys (who played a leading role in orchestrating the violent 2021 insurrection at the US Capitol), “Stand back and stand by.”