The mistake in Trump’s tariff formula
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What is the main topic discussed in this episode?
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Hello and welcome to the last in this series of More or Less. We're making a list, we're checking it twice, just to make sure we haven't accidentally tariffed some penguins, and I'm Tim Harford. This week, when is a tax freeze not a tax freeze? Hello, hello, hello. Strange goings-on in the world of counting police officers. Charlotte MacDonald tells me why redheads are tougher than I am. But first, let's start with Liberation Day, the day US trade policy liberated itself from the shackles of rationality.
In a few moments, I will sign a historic executive order instituting reciprocal tariffs on countries throughout the world. Reciprocal. That means they do it to us and we do it to them. Very simple. Can't get any simpler than that.
Let's just get the obvious stuff out of the way. These tariffs are not reciprocal. The average tariff the EU puts on the US is somewhere between 1% and 5%, depending on who's counting. They got a reciprocal tariff of 20%. Switzerland puts virtually no tariffs on US imports. They got a 31% tariff. Aha, but trade is complicated. Maybe the US has used a clever calculation to account for other trade barriers, such as bans on certain kinds of products. Hormone-treated beef. Chlorine-washed chicken. Those chocolate bars that taste a little bit like sick. That sort of thing might annoy a red-blooded US exporter.
They rip us off. It's so sad to see. It's so pathetic.
Nope, none of that was involved.
How did the Trump administration calculate its 'reciprocal' tariffs and what's wrong with the formula?
Writer James Surowiecki was the first to twig what was going on. He noticed that the new tariffs had nothing to do with that. All that mattered was the value of the goods each country sold to the US and how much each bought from the US. To get the tariff numbers, you use a basic formula. Your so-called reciprocal tariff equals the value of exports to the US minus the value of imports, aka the bilateral trade deficit, and then convert it into a percentage by dividing the whole thing by imports. Then, to get the tariff the US would impose, the answer was divided by two. Why? Well, that was because President Trump was being kind.
We are being very kind. We're kind people. Very kind.
When James Surowiecki posted this on Twitter... It's called X now, Tim. Not on my programme. We eat marathons and opal fruits, we clean with Jif and we post on Twitter. So, as I was saying, James posted this on Twitter and people were astonished that there hadn't been a complicated process that looked in detail at tariffs and trade barriers, but just a very simple formula – people started to laugh and poke fun. Sad. So the White House Press Department replied to James Surowiecki to say that the formula was actually much more complex, and they issued a complicated equation full of Greek letters. The increase in tariffs equals exports minus imports, divided by imports, multiplied by epsilon and phi.
They said learning ancient Greek for ten years was pointless. Nathan, you just showed them. The new equation is divided by two additional terms, epsilon and phi, which were multiplied together. But the values of these terms were 4 and 0.25. Always 4 and 0.25 for every country. Now those of you who are particularly good at mental arithmetic will realise that if you multiply 0.25 and 4 together, you get 1. And if you multiply by 1, it doesn't make any difference to the rest of the equation. Now, it is tempting, therefore, to dismiss the importance of these terms. But actually, including them in the formula did make sense. But there was a problem. There were good reasons to think that the values were wrong.
Thomas Sampson is an associate professor at the London School of Economics.
The idea is that the epsilon tells you about how much, if you increase tariffs and therefore you increase the price of imports, how much trade responds. And the phi is telling you, if you increase tariffs, how much of that is passed through into import prices. So the combination of the epsilon and the phi tells you, if I increase tariffs, what is the proportional change in trade as a response?
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Chapters
4 chapters
1
What is the main topic discussed in this episode?
0:01–1:46
2
How did the Trump administration calculate its 'reciprocal' tariffs and what's wrong with the formula?
1:46–15:33
3
Why do the epsilon and phi terms matter in the tariff equation and how were they mis-specified?
15:33–26:12
4
How would using realistic trade elasticity values change the tariff levels and economic risk?
26:12–29:36