In his insightful post titled Tariffs and the Economy, Scott Sumner points out that the most significant impacts of tariffs are neither immediate nor particularly dramatic. Instead, they subtly erode long-term growth as economic arrangements become less efficient, leading to a compounding effect on lower growth rates.
The absence of an immediate catastrophe can easily mislead some into downplaying the seriousness of tariffs. For instance, following the Rose Garden tariff announcements, the S&P 500, despite experiencing notable market losses, remained significantly higher than it had been five years earlier. A year of diminished wealth is undoubtedly unfortunate, as increased wealth is critical for saving and enhancing lives. Nevertheless, it’s worth noting that the U.S. economy was quite prosperous five years ago and continues to be so today.
This situation echoes the discussions surrounding ‘Brexit: Five Years Later’ as we approach 2024. Brexit, characterized by a smaller economy’s withdrawal from a large common market, effectively introduced trade barriers. In the spring of 2016, the UK Treasury warned of an “immediate and profound” recession should Brexit occur. When this dire prediction failed to materialize, supporters of the Leave campaign began to mock what they termed “Brexit doom,” dismissing the concerns about the economic fallout from leaving the EU. Yet, while it’s a general rule that shrinking the market tends to impoverish us—an economic principle that seems to elude many— those who scoffed at the cost could have benefited from reflecting on the third point made in Scott’s analysis:
3. Most economists overestimate the impact of “real shocks” such as tariffs on inflation and the business cycle.
Furthermore, let’s consider points four and five:
4. The most significant economic impact of tariffs is on long-run economic growth. (There are other non-economic consequences, such as an increased risk of conflict.)
5. Most economists do not overestimate the impact of tariffs on long-run growth.
A critical reminder follows: “A 0.2% decline in long-run growth is far worse than a 2% fall in GDP for a single year.” (For more on the effects of monetary policy, be sure to read the entire post.)
In terms of long-term forecasts, economists appear to have been more accurate regarding the costs of Brexit. By January 2020, the UK’s GDP was 1–3% lower than it would have been absent the EU departure. By 2025, productivity is declining, revealing that the UK economy is underperforming in what some refer to as a ‘doppelgangar’ model (a term that adds a dash of whimsy to an otherwise grim analysis, particularly as it accounts for the pandemic).
The Brexit Files: from referendum to reset, 28 Jan. 2025
While there are evident distinctions between the United States and the UK—chiefly their population sizes and economic scales—the fundamental economic principle of division of labor, constrained only by market size, still holds true. This principle remains critical to understanding the implications of trade barriers.
Ultimately, it’s crucial to remember that stock market fluctuations, dramatic as they may be, are not the core of the narrative. Even if all tariffs were lifted overnight, the prospect of restoring robust international trade seems bleak, given the lasting economic uncertainties and political tensions that these policies have created.
