President Donald Trump intends to launch his much-awaited tariff program on Wednesday. The administration is labeling this “Liberation Day” on the theory that tariffs will bring manufacturing back to the United States, thereby liberating us from dependence on foreign companies and labor.
It’s not at all clear, however, that Trump or his team understand how tariffs work. That failure could be fatal to their plans, harming both the economy and the Republican Party’s midterm chances.
Tariffs are simply a tax on imports. A person or a company bringing a good into the country must pay a certain percentage of that good’s price to the federal government for the right to use or resell it.
That obviously will make the levied goods more expensive for the purchaser, and people normally try to get something for less when they are able. Importers then will search for alternatives to the imported good even if the price they pay would be more than they would have paid but for the tariff.
That’s why the tariff can help bring manufacturing back to America. Say a company importing refrigerators has to pay a 25% tariff. If they can find an American manufacturer that charges 15% more than the pre-tariff price, that good is now cheaper than the imported alternative. Importers will buy that, benefitting the American manufacturer.
Note, however, that the tariff has this effect only because the price to the importer rises substantially. That price rise is what incentivizes the importer to buy American.
The importer may pass some or all of that price hike on to the consumer. If he does, then the consumer pays more for the same good than he or she would have before the tariff. That price increase is also registered as inflation in government accounts.
The importer could choose to eat some of the price hike itself, but that would drive its profit down. Decreased profits will inevitably lead to decreased stock share prices, passing the tariff-imposed price hike on to investors.
Ordinary people, then, will likely see two primary effects from tariffs: rising prices and declining net worth.
That’s the short-term impact. In the long run, tariffs can help build wealth by recreating the American industrial base. More high-value goods built in America will increase profits for American firms, and workers in those firms should see an increase in their paychecks.
That should also spark demand for American labor, which would lead to rising wages across the labor markets for workers who could help themselves by switching to a manufacturing job. Both rising profits and rising wages would increase federal tax revenue, as the money that used to be sent overseas for imported goods is spent at home.
This virtuous cycle can only work, however, if tariffs are set at a high level on a broad number of goods and maintained for the foreseeable future. If the tariffs are too low to create a meaningful incentive for importers to look for U.S.-built alternatives, the pain comes with no discernible gain.
The same is true if they are not viewed as a permanent shift in U.S. trade policy. Importers will not enter into long-term contracts if they think the tariffs will be lifted after a few days, weeks, or months. Large multinational companies will also not make the huge investments needed to create new American manufacturing capacity if they think those investments will be rendered worthless by a change in tariff policy.
Trump’s tariff statements and actions so far undercut the rationale for tariffs to begin with. His on-off approach to levying the charges is creating huge uncertainty, and the relatively low levels of some tariffs may not lead to a notable change in importer or manufacturer behavior.
Trump’s uncertainty over whether importers should raise their prices after tariffs are imposed puts another crimp in a rational plan. Tariffs only change behavior if prices rise. His tariffs will only depress the stock market and cause layoffs if pressure to avoid price hikes forces importing firms to bear the entire cost of the tariffs themselves.
Trump needs to shift his tune and start to send a consistent message if he wants his tariff program to succeed. He must tell people how the plan is intended to work and why their short-term pain will lead to long-term gain. He must also pick a plan and stick to it rather than confuse everyone with shifting, conflicting signals.
The consequences if he does not do these things could be dire. An inconsistent and inartfully imposed tariff plan could decrease employment and hit stocks without increasing domestic investment. Failure to communicate the plan would mean voters who expected a return to the low-inflation, high-wage economy of 2019 will be shocked that the opposite has occurred.
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Voters always punish presidents and their party in midterms when the economy is poor and their expectations have been dashed. Imagine what Trump’s last two years in office would look like with Rep. Hakeem Jeffries (D-NY) as speaker of the House and the GOP Senate majority resting on the whims of Sen. Lisa Murkowski (R-AK).
Trump can make America great again, but he cannot repeal reality. A tariff policy that ignores economic reality will make Democrats, not America, great again.
Henry Olsen is a senior fellow at the Ethics and Public Policy Center and a veteran political analyst. He is the host of Beyond the Polls, a podcast about American elections and campaigns.