Uncertainty, tariffs, and the trade deficit

This Thursday the Census Bureau will release international trade data for the month of December. It will show where imports, exports, and the trade balance landed in the first calendar year of President Trump’s return to office and renewed trade war. It’s a good opportunity to review what tariffs will—and won’t—do when it comes to America’s trade balance.

President Trump has highlighted select monthly readings to claim a significant decline in the trade deficit. But as the nearby chart shows, year-to-date, the goods trade deficit is up more than 5 percent compared to the same point last year. Between front-running, drawing down pre-tariff inventories, and waiting to see where (or whether) tariffs settle, we should expect fluctuations and disruptions to trade patterns. But we should not expect tariffs themselves to reduce the trade deficit in the long run.

That’s because standard trade theory tells us imports and exports are the flip side of the same coin. Policies that shrink or grow imports tend to do the same to exports.

One way that occurs is through currency effects. Tariffs discourage Americans from buying foreign goods, which tends to raise the value of the dollar as Americans demand less foreign currency. A stronger dollar makes US exports more expensive to foreign consumers, which causes exports to fall. The result is less trade overall, not a smaller trade deficit. (For a deeper dive, here’s a paper I coauthored with Kyle Pomerleau.)

But over the past year, the dollar has been weakening, seeming to counter what the textbook theory would predict.

Other factors, like heightened uncertainty or the US losing attractiveness as an investment location, could push in the opposite direction. That’s what initial evidence published in a working paper last month indicates is happening. The authors find tariff increases lead to appreciation, but tariff policy uncertainty leads to depreciation, overturning the standard result.

Most strikingly, the authors warn that US dollar dominance may come into question from “major policy errors, including uncertain trade policies, that may accelerate an erosion of confidence already underway.”

Tariffs should reduce trade, not fundamentally change its balance. But the extreme nature of President Trump’s trade policy experiment may cause broader shifts in trust, risk, and relationships that have additional economic effects. In the months ahead, interpreting trade data will demand caution—and context.

And before you go, the Supreme Court is handing down more opinions this Friday. While we don’t know if the tariff decision will be one of them, here is how Tax Foundation estimates the emergency tariffs, which account for nearly three-fourths of the new levies imposed by Trump, affect the economy:

· Increase the applied tariff rate on US imports by 7.1 percentage points

· Increase the effective tariff rate on US imports by 5.3 percentage points

· Raised nearly $100 billion in net revenue for the federal government in 2025 and will raise an additional $1.4 trillion in revenue over the next decade

· Increase costs on US households by $700 in 2025 and $900 in 2026

· Reduce long-run GDP by 0.4 percent and hours worked by 282,000 full-time equivalent jobs