How to Understand Tariffs 2025 and Their Global Impact
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This week's topic is tariffs. On February 1st, U.S. President Trump declared additional tariffs—a campaign promise he had previously emphasized—sending shockwaves through global markets. Not only did this affect the targeted countries—China, Canada, and Mexico—but also temporarily depressed stock prices in the EU, Japan, and other Asian nations, revealing the magnitude of this disruption.
However, it can be difficult to understand why tariffs, which are generally unfamiliar to most people, have such a profound impact on the world. In this article, we'll explore the basic structure of tariffs, why countries impose them, their historical context, and explain the additional tariffs implemented by the Trump administration's second term.
Trump's Second Term and the New Tariff Drama
Let's first examine President Trump's additional tariffs on Canada, Mexico, and China. Having promised these additional tariffs during his election campaign and before his inauguration, President Trump declared on February 1st that he would impose a 25% tariff on imports from Canada and Mexico, and a 10% tariff on imports from China, set to begin on February 4th.
This announcement created significant market turbulence on February 3rd. However, just before implementation, the tariffs on Canada and Mexico were postponed for one month, citing progress in negotiations. Meanwhile, the additional tariffs on China proceeded as planned, creating a complex situation.
Understanding these developments requires some basic knowledge about tariffs, which I'll explain next.
The Fundamentals of Tariffs
A tariff is a tax imposed on goods imported from foreign countries. When products enter a country from abroad, an additional amount is added based on the product's price. For example, if a country has a 5% tariff on cars and you import a foreign car worth $4 million, you'll pay an additional $200,000 in tariffs, bringing the total to $4.2 million.
Here's how it works: When foreign-made products arrive in the United States, they pass through customs where the tariff amount is verified and the importer pays the tax. It's important to note that the direct burden of tariff costs falls on domestic importers in the country imposing the tariff, not on the exporters.
Tariff rates vary depending on the product and country of origin. Some products have no tariffs, while others may have tariffs exceeding 100%.
The Purpose of Tariffs
While tariffs are closely related to our daily lives, the primary reason countries implement such systems is to serve as a protective mechanism for domestic industries. For example, imagine farmers in a country producing vegetables at $100 each. If foreign vegetables priced at $50 each flood the market, domestic farmers could be driven out of business by price competition.
However, if a 100% tariff is imposed on these imported vegetables, their price in the domestic market becomes $100, allowing local farmers to compete on equal terms. In this way, tariffs function as a shield to protect domestic industries and employment. This approach or mindset of using tariffs to protect domestic industries is called protectionism or protective trade.
*WTO (World Trade Organization): An international organization established in 1995 that replaced GATT, with stronger mechanisms to regulate international trade and resolve trade disputes.
*EPA (Economic Partnership Agreement): A type of free trade agreement that focuses on economic cooperation beyond just removing tariffs.
*NAFTA (North American Free Trade Agreement): A trade agreement implemented in 1994 between the United States, Canada, and Mexico to eliminate most tariffs and trade barriers.
*USMCA (United States-Mexico-Canada Agreement): The successor to NAFTA, implemented during the first Trump administration with more stringent regulations favoring the United States.
*BRICS: An association of emerging economies including Brazil, Russia, India, China, and South Africa, representing a significant economic bloc in global trade.
The Importance of Protective Trade Policies
Protectionism may seem passive or negative, but tariff policies play an important role for nations. As in our example, food—particularly agricultural products like grains—is vital to national security, and depending solely on imports can be risky. Yet climatic differences, variations in land quality, and fundamental differences in labor costs can make foreign products overwhelmingly cheaper.
This concern extends beyond agricultural products to items crucial for domestic industries. Additionally, there's the practice of "dumping," where countries intentionally export large quantities of inexpensive goods to destroy another country's industry. Tariffs provide essential protection against such practices.
Dumping, also known as predatory pricing, refers to selling goods or services at unreasonably low prices to eliminate competitors before gaining market dominance—a rather malicious strategy, but one that tariffs can help counter. While the distinction between dumping and legitimate exports can be blurry (not all are malicious actions), tariffs serve as a shield in this sense as well.
However, it's important to remember that while tariffs have protective functions, they don't inherently strengthen domestic industries. Protecting vulnerable industries from unfair competition is important, but tariffs only offer protection—they don't increase production or foster technological innovation in these industries.
In fact, excessive protection that eliminates competition may actually hinder growth. In modern economies, failure to grow is essentially the same as decline, so along with tariff protection, separate strategies to promote growth are necessary.
The Historical Context of Tariffs and Trade
Before the 19th century, many countries imposed high tariffs, believing that reducing imports and increasing exports would enrich the nation. However, as global industries developed and production capacity dramatically improved, leading economists argued that free trade was more beneficial for overall economic development than protective trade policies.
This led to the emergence of free trade thinking, though the world would continue to swing between protectionism and free trade. The strongest wave of protectionism in the 20th century came during the Great Depression. In response to the depression, the United States created the Smoot-Hawley Tariff Act, establishing very high tariffs to protect domestic industries.
As other major powers also implemented protectionist measures, world trade rapidly contracted—by 1932, total imports of 75 major countries had fallen to less than 40% of 1929 levels, leading to economic stagnation and deeper recession.
During this period, countries established exclusive economic zones, implementing free trade within their colonies or spheres of influence while imposing high tariffs on countries outside these zones. This global economic fragmentation not only prolonged the depression but also intensified friction between major powers, becoming one factor leading to World War II.
After World War II, this painful experience prompted the world to pivot back toward free trade. In 1947, the General Agreement on Tariffs and Trade (GATT) was established, aiming to liberalize trade between nations. GATT-based global efforts took considerable time but yielded clear results—average tariff rates in developed countries fell from 40-50% in 1945 to around 3%, supporting the expansion of free trade and global economic growth.
However, the expansion of free trade also presented challenges. Under the GATT system, defeated nations like Germany and Japan achieved threatening economic development, causing tremendous stress to the previously dominant U.S. industrial sector. Concerned about widening trade deficits, the United States established Section 301 of the Trade Act of 1974, allowing it to unilaterally determine foreign trade policies as unfair and impose trade sanctions.
This became a powerful negotiating card, as the United States could exclude trading partners from its massive market. Countries with trade surpluses with the U.S. had no choice but to succumb to pressure and implement voluntary export restraints.
Despite concerns about potential trade wars through retaliatory measures, the economic and military power of the United States was so overwhelming that tensions were resolved through concessions from target countries.
Despite these tensions, the broader trend toward free trade continued. In 1995, the World Trade Organization (WTO) was established as an evolution of GATT. While GATT was merely an agreement providing a negotiation venue, the WTO became a formal international organization with enhanced functions. In particular, the clarification of rules for negotiation, consultation, and countermeasures in trade disputes between member countries contributed to the orderly promotion of free trade, furthering the expansion and development of the global economy.
Recent Developments in Trade Policies
Following the "once-in-a-century" global financial crisis, efforts to promote free trade intensified. Many countries, including Japan, pursued Free Trade Agreements (FTAs) and Economic Partnership Agreements (EPAs) to eliminate tariffs and non-tariff barriers.
The North American Free Trade Agreement (NAFTA), which took effect in 1994 before the WTO's establishment, was a pioneering large-scale FTA that aimed to eliminate tariffs and non-tariff barriers among the United States, Canada, and Mexico.
However, entering the late 2010s, a rollback from free trade began, particularly with the United States returning to protectionism. President Trump, who had long questioned free trade systems and raised concerns about widening trade deficits, withdrew from the TPP (which the U.S. had led) and replaced NAFTA with the United States-Mexico-Canada Agreement (USMCA), a more stringent, U.S.-centered agreement, claiming that products were being imported from outside North America.
From 2018, President Trump began implementing signature tariff policies. First, he imposed additional tariffs of 25% on steel and 10% on aluminum, claiming they significantly affected U.S. security.
This measure applied globally with few exceptions, but even more significantly, he imposed individual additional tariffs on China, triggering a trade war with cycles of retaliatory tariffs. This hard-line approach toward China continued under the Biden administration, intensifying economic confrontation between the U.S. and China.
The results of the China tariffs are superficially positive. U.S. imports from China have decreased significantly compared to before the additional tariffs, and the trade deficit with China has shrunk. However, the overall U.S. trade deficit has not decreased but has actually increased, and China's trade surplus continues to grow rather than decline.
While simply comparing trade balances between countries provides limited insights—and trade deficits aren't necessarily bad—the U.S. trade deficit that was problematic continues to increase. This suggests that trade partners may have shifted from China to other countries, or Chinese products might be entering through third countries.
Similarly, even with the 25% additional tariff on steel, U.S. domestic production hasn't increased, and import volumes continue to rise. While tariff policies have had some effect in reducing dependence on high-risk China, they haven't demonstrably revitalized or grown domestic industries.
Trump's Second Term and Current Tariff Policies
This brings us to the start of Trump's second administration. While the benefits of economic globalization have spread worldwide—with the United States becoming even more powerful as it hosts the overwhelming majority of hyper-global companies—some within the U.S. don't see it that way.
In President Trump's words, the United States has been "robbed" in free trade and has suffered losses for a long time. His strong performance in the Rust Belt—regions where manufacturing once flourished—was again a driving force behind his re-election.
President Trump had made various tariff-related promises during his campaign, but the first concrete major tariff policy after his election was the uniform additional tariffs on Canada, Mexico, and China.
This meant adding 25% and 10% tariffs across all product categories, on top of existing tariffs. The stated reasons—illegal drug inflow and illegal immigration—weren't directly related to trade, but since these are all major trading partners for the U.S., whether he would actually implement these tariffs became a focal point.
Despite ongoing conflicts, China's inexpensive, high-quality industrial products and rare resources remain important to the United States, and imposing an additional 10% tariff on all of these would be substantial in scale. Regarding Canada and Mexico, as mentioned earlier, NAFTA has promoted tariff elimination and economic integration since the 1990s, creating a state of virtually no economic borders. This has established a North American economic zone where everything from industrial products to agricultural goods freely moves.
Manufacturing companies like those in the auto industry have rushed to build factories in Mexico, where labor costs are lower, and send finished products to the U.S. and Canada. Canada has expanded its exports, particularly mineral resources, to the U.S., which is a massive consumer market. In bilateral trade, these countries' dependence on the U.S. reaches 70-80%, making survival difficult without this economic zone.
While the U.S., trading with the world, doesn't have a high export share to Canada and Mexico, imports from these two countries combined account for 30% of total U.S. imports. Excluding energy-related products like crude oil slightly lowers this percentage, but imposing a 25% tariff could still cause pain to the U.S. through price increases.
As a result, tariffs on Mexico and Canada were avoided for now, but the 10% additional tariff on China was implemented, creating a contrasting outcome. As has been discussed, what's important for the Trump administration isn't actually imposing tariffs to protect domestic industries but using America's position as the world's largest economic power as a negotiating card to demand some form of compensation.
In dealings with Mexico, the U.S. secured a promise to send 10,000 troops to the U.S.-Mexico border under the pretense of stopping illegal immigration and drug trafficking. With Canada, they established a special officer to address drug smuggling and strengthened border surveillance with the U.S. While the effectiveness is uncertain, these represent some level of achievement—providing gifts to domestic supporters.
Negotiations with China are somewhat different due to fundamental conflicts and may be expected to be more protracted. As mentioned earlier, uniform high tariffs also impact the domestic economy, so they probably can't be easily raised to 20% or 30%. China's retaliatory tariffs also don't seem to indicate a spirit of all-out resistance, suggesting some room for negotiation remains.
While Trump administration policies are understandable from an "America First" perspective, their sudden aggressive moves, provocative language, and unconventional schedules designed to gain negotiating advantages create market volatility through unpredictability. We can expect significant fluctuations, both up and down, to continue for some time.
Continued negotiations with China are expected, and the BRICS group of emerging nations will also be important negotiating partners. Among allied countries, the EU is mentioned as the next target after North America. Of course, Japan and other Asian countries could also become targets before long.
For the foreseeable future, we expect matters to proceed at President Trump's and America's pace, requiring vigilance and a calm response.
Summary
Tariffs are taxes imposed by countries on importers, primarily used to protect domestic industries. However, in the post-war construction of the global economy, substantial tariffs were eliminated, creating a free trade system. Recently, there's been a stronger trend toward using tariffs as strategic cards, exemplified by U.S. President Trump. Countries and businesses, though confused, are desperately trying to keep up with these changes.