Tariffs 101: Unpacking the Layers of a Complicated Policy Tool
How tariffs affect businesses, consumers, and the economy—and why the reality is far from straightforward.
The News
It’s well-known that Donald Trump is a strong supporter of tariffs and plans to use them if he enters office in 2025. This week, we’re seeing the first major business reaction to the yet-to-be-finalized policy. According to a CNN report, Steve Madden, a $3 billion shoe brand, is planning to reduce its Chinese manufacturing by 50%. While it’s still unclear if other companies will take similar steps before any policy is officially enacted, it's safe to say that many business leaders with international manufacturing operations are preparing contingency plans.
While numerous articles discuss the risks and benefits of tariffs, I’ve noticed a lot of misinformation and misunderstanding about what tariffs really are. Some of this stems from a mischaracterization, particularly from Donald Trump, that tariffs are fees paid by other countries to the U.S.
Today, we’ll explore this concept with the goal of highlighting the complexity and nuance involved in planning and implementing something that results in more benefit than destruction. Let’s break it down!
The Concept
A tariff is, in simple terms, a tax that a government places on goods imported from other countries. This tax is actually paid by the business in the U.S. importing the products—not by the foreign country. When a company imports goods (such as cars, electronics, or food) from abroad, they pay a tariff, which is typically passed on to consumers, making these goods more expensive. If the U.S. implements a tax on electronics from China, companies like Apple will be paying the bill, not China.
Governments use tariffs for several reasons:
Protecting domestic businesses by making imported goods more costly and therefore less competitive.
Generating federal revenue as tariffs are essentially taxes on business importing products.
Counteracting unfair trade practices when imports are sold at unsustainably low prices, harming the domestic competitors and ecosystem.
Let’s look at a simple example:
If a U.S. car dealership wants to import cars from Japan, the government might place a 10% tariff on each car. So, if the dealership buys a car for $20,000, it would now pay an additional $2,000 as a tariff, totaling $22,000. To maintain profit, the dealership would likely raise the car’s price, making imported cars more costly for consumers.
In the short term, tariffs often increase prices, which can lead to inflation. There’s also the risk that other countries will impose tariffs on U.S. goods in response, which could negatively affect U.S. businesses that rely on exports.
On the positive side, tariffs can protect domestic jobs, particularly in manufacturing, by making local products more competitive. Tariffs can also encourage companies to move their manufacturing activities into the U.S., theoretically creating more jobs.
The common assumption is that businesses choose foreign manufacturing solely for cheap labor and that a bit of financial pressure will bring them back. However, the reality is far more nuanced. An effective tariff policy requires a deep understanding of the motivations and industry dynamics that led to offshoring in the first place, ensuring that tariffs are indeed the right solution for addressing these complexities.
To grasp the current magnitude of tariffs, the chart below illustrates how federal revenue from tariffs has increased since Trump’s first term, with the Biden administration maintaining these policies. This raises a key question: who is truly bearing the cost—countries, companies or consumers?
The Example
Having explained the mechanics of tariffs with the car dealer example above, I’d like to use this section to illustrate, through another example, that while the concept of tariffs is straightforward, predicting their impact is far more complex. Each industry and business faces unique challenges that may have led them to rely on foreign manufacturing.
Take Apple’s iPhone supply chain, for example. Apple’s choice to manufacture in China is largely driven by access to a highly skilled labor force. Building such a workforce takes years—if not decades—and while China has invested heavily in developing these skills, the U.S. has moved in the opposite direction.
Here’s an insightful quote from Tim Cook:
"There's a confusion about China. The popular conception is that companies come to China because of low labor cost. I'm not sure what part of China they go to, but the truth is China stopped being the low-labor-cost country many years ago. And that is not the reason to come to China from a supply point of view. The reason is because of the skill, and the quantity of skill in one location and the type of skill it is."
"The products we do require really advanced tooling, and the precision that you have to have, the tooling and working with the materials that we do are state of the art. And the tooling skill is very deep here. In the U.S., you could have a meeting of tooling engineers and I'm not sure we could fill the room. In China, you could fill multiple football fields."
"The vocational expertise is very very deep here, and I give the education system a lot of credit for continuing to push on that even when others were de-emphasizing vocational. Now I think many countries in the world have woke up and said this is a key thing and we've got to correct that. China called that right from the beginning.” (source: Inc.com)
In this case, imposing tariffs wouldn’t create U.S. jobs or significantly impact China; instead, it would likely just raise prices for Apple products for the U.S. consumer while leaving other regions unaffected.
How do we bring Apple’s manufacturing to the U.S.? Possible solutions could include encouraging the immigration of skilled workers or revamping the education system. Whatever the solution, it’s clear the issue is complex, and each industry has unique considerations. If tariffs are a hammer, let’s make sure we’re hitting only the nails.
The Quiz
Who pays the tariff on imported goods when the U.S. imposes tariffs on products from other countries? (answer at bottom of the page)
A. The foreign country exporting the goods
B. The U.S. government
C. The business importing the goods
D. The U.S. consumers directly
Answer: C
Tim Cook's comment about going to China for skills overlooks the fact that U.S. manufacturers, including Apple, have been foolish enough to train China to have more higher skilled workers.
Why did they do this? For short-term profits, which are more important to them than national security, a more stable economy, and the common good of American citizens.
It's time to reverse the trend. Return American schools to be the best in the world again. Make America the place where the majority of our workforce is higher skilled and more productive than anywhere else in the world.