This week’s tariff headlines set the first week of February off to a chaotic start. During the election cycle, we heard a lot about tariffs, and now the Trump administration is working to put those policies into action. With tariffs becoming a reality, understanding their impact on our economy and investments is a worthwhile exercise. As financial leaders, we’re here to break down what tariffs are, how they influence the economy, and why they matter to investors and everyday consumers.
What are tariffs?
In its simplest definition, tariffs are a trade policy a government can enact to serve as a tax on imported goods. When a country imports products from another country, it can charge a tariff, making those goods more expensive. The goal is often to encourage consumers to buy domestic products instead of foreign ones, helping domestic companies. Tariffs were a primary revenue source for the U.S. government until the introduction of the federal income tax in 1913. Historically, governments used tariffs to protect domestic industries and raise revenue, with policies dating back to the Tariff Act of 1890 under President William McKinley.
How have tariffs been used historically?
Tariffs are primarily used to protect domestic industries, generate revenue for governments, and sometimes as a bargaining chip in international trade negotiations. Previously, countries imposed tariffs to support local manufacturers and shield them from foreign competition. However, tariffs can also lead to trade disputes, as countries retaliate by imposing their own set of tariffs against the instigator. Tariffs were especially popular from the 1860s through the 1930s before income tax replaced tariff revenue as the government’s primary funding source.
How are the Trump administration’s proposed tariffs different?
President Donald Trump’s proposed tariffs differ from previous administrations’ scope and scale. Historically, U.S. leaders have used tariffs in a targeted manner, often focusing on specific industries. Trump’s broader approach affects large trading partners like China, Mexico and Canada. His proposed tariff policies are a negotiating strategy to push countries into trade agreements that favor the U.S. Unlike previous tariffs designed solely to protect domestic industries, the Trump administration has also used tariffs to negotiate broader political and economic goals, such as border security.
How are proposed tariffs on Canada and Mexico different from those on China?
The current tariff situation remains fluid, with President Trump initially announcing tariffs on Canada, Mexico and China. At the time of this writing, there is a new 10% tariff on all Chinese goods to address concerns over unfair trade practices and intellectual property theft. In a measured retaliation, China announced 10-15% tariffs on some U.S. products. In comparison to past trade wars, the muted response signals that China’s economic priorities have shifted due to domestic economic struggles. Meanwhile, the Trump administration temporarily paused the tariffs on Canada and Mexico following agreements on border security, but the situation remains in flux.
What industries are most impacted by tariffs?
Tariffs can hit several industries, but the most affected tend to be:
- Manufacturing: Higher costs for imported raw materials, such as steel and aluminum, can increase production expenses for car makers, construction companies and appliance manufacturers.
- Agriculture: When countries retaliate against U.S. tariffs, they often target American farmers by imposing tariffs on crops like soybeans, corn, and pork. During Trump’s first term, the agriculture sector suffered a significant decline in export demand as a result and required government aid to remain viable.
- Retail and Consumer Goods: Tariffs on imported goods from China and other countries can make everyday products, like clothing and electronics, more expensive for consumers. Some industries, like clothing, have high margins, meaning tariffs may not significantly impact end prices. In contrast, industries with thinner margins, like groceries, are more vulnerable.
- Technology: Many tech products rely on parts manufactured abroad, meaning tariffs can raise costs for businesses and consumers alike.
What do consumers need to know about tariffs?
For the average consumer, tariffs can increase everyday goods’ prices. Companies that pay tariffs on imported products can pass those costs to shoppers. For example, if a tariff is placed on foreign-made electronics, the price of smartphones and laptops could rise. Tariffs can also impact jobs—while they may help protect some U.S. industries, they can also lead to job losses if companies struggle with higher costs. Additionally, tariffs can contribute to inflation by increasing the cost of goods, reducing purchasing power, and making everyday essentials more expensive.
Should investors change their strategies because of tariffs?
While tariffs can create short-term market volatility, long-term investors should avoid making quick decisions based on trade policies alone or any day-to-day market moves. Market reactions to tariffs can be unpredictable, and history has shown that economies and businesses adjust over time. To manage risks effectively, investors should have a diversified portfolio of investments spread across various sectors and global markets.
Tariffs have historically triggered market volatility. When the Trump administration announced tariffs on China, markets dropped sharply before making a near total recovery that same day . Investors should focus on long-term goals and consult their financial advisors before making portfolio changes.
Final thoughts
Tariffs are an economic tool that can significantly affect businesses, consumers, and investors. While they can protect local industries, they also have the potential to raise prices and disrupt global trade. Staying informed and maintaining a balanced, diversified portfolio is critical to managing the risks associated with trade policies and other unforeseen market events. If you have concerns about how tariffs may impact your investments, you should speak with your financial advisor to help ensure your financial plan is built to withstand any market turbulence.
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