V2U Research

A tariff war is an economic dispute where countries impose additional taxes on each other’s exports. It typically arises when one nation is dissatisfied with a trade partner’s practices or due to geopolitical tensions. The initiating country increases tariffs on imports from the targeted nation, prompting retaliatory tariff hikes. These higher taxes aim to inflict economic strain by making imported goods more expensive, discouraging their purchase. In some cases, tariff wars serve as a strategic tool to pressure a country into altering its political or economic policies. When used for such purposes, they are also referred to as customs wars.

What is Reciprocal Tariff?

A reciprocal tariff is a tax or trade restriction imposed by one country in response to similar actions by another, aiming to balance trade and protect local industries. While intended to address trade imbalances, it can escalate into a trade war, disrupting supply chains, raising consumer prices, and slowing economic growth. Open communication and cooperation are crucial to resolving trade disputes without resorting to reciprocal tariffs.

U.S. Trade Deficit Soars in January Amid Rising Imports and Global Imbalances

As per the U.S. Census Bureau and the U.S. Bureau of Economic Analysis — In January 2025, the U.S. goods and services trade deficit surged to a record $131.4 billion, marking a $33.3 billion increase from December. Exports rose to $269.8 billion, driven by higher shipments of capital goods and consumer goods, while imports saw a significant jump to $401.2 billion, mainly due to increased industrial supplies, pharmaceuticals, and electronics. The year-over-year deficit nearly doubled, reflecting a sharp rise in imports compared to exports.

The trade gap widened with key partners, including China ($29.7 billion or 22.6% of the total deficit), the European Union ($25.5 billion or 19.4%), Switzerland ($22.8 billion or 17.3%), Mexico ($15.5 billion or 11.8%), Vietnam ($11.9 billion or 9.1%), and Canada ($11.3 billion or 8.6%). Historically, the U.S. has maintained persistent trade deficits with China, Mexico, Vietnam, Canada, Germany, Japan, and Ireland due to high imports of oil, consumer products, and industrial goods, while sustaining trade surpluses with the Netherlands, Hong Kong, Brazil, Singapore, Australia, and the United Kingdom. Canada remains the top trading partner, accounting for 15% of total trade, followed by Mexico (14%) and China (13%). The data highlights growing import demand, supply chain shifts, and trade imbalances that could impact economic stability.

Trump Administration’s Tariff Policies: Impact and Implications

President Donald J. Trump implemented aggressive tariff measures to protect national security and economic interests. Amid ongoing crises, he imposed a 25% tariff on imports from Canada and Mexico and a 10% tariff on Chinese imports, with a reduced 10% tariff on Canadian energy resources. Citing trade as a critical component of national security, Trump used tariffs to curb illegal immigration and drug trafficking, particularly fentanyl.

During his first term, Trump leveraged tariffs as a negotiation tool, securing border agreements with Mexico and protecting the U.S. steel and aluminium industries from global oversupply. He also imposed tariffs on China in response to intellectual property theft and unfair trade practices, leading to a historic trade agreement. His administration maintained that America’s open economy and trade leverage should be used strategically to advance national security and economic priorities.

The impact of US tariffs on Emerging Economies -

• China:

The US is set to impose additional tariffs on Chinese imports in 2025, posing a significant economic challenge for China. A 20-percentage-point increase in the effective tariff rate could reduce China’s GDP by 0.6 percentage points from 2025 to 2027, with further declines due to weakened manufacturing investment and consumer sentiment. If Donald Trump enforces a 60% tariff on Chinese goods, GDP growth could contract by 2.5 percentage points over the same period, signalling a severe deterioration in US-China relations.

China is expected to respond with moderate and targeted tariff retaliation, but it will primarily rely on non-tariff measures. The likelihood of a trade deal aimed at reversing these tariffs is low.

Under Trump’s first presidency, US tariffs on Chinese goods rose from 3% in 2017 to 10.3% in 2023, reducing China's share of US imports from 21.9% to 13.8%. Countries acting as trade intermediaries have further softened China’s direct exposure to tariffs.

US tariffs will directly impact Chinese exports, with additional second-order effects on investment and consumer confidence. The elasticity of trade, which measures how importers shift away from Chinese goods, starts low but increases over time. A 2024 study found that after the 2018-19 US tariffs on China, trade elasticity rose from just over 1 to 4 by 2022, meaning a 1% tariff increase led to a 4% drop in trade value. For this analysis, the tariff elasticity of US imports from China is assumed to be 1 within the first year of tariff imposition.

• India:

US President Donald Trump has intensified the ongoing tariff war, announcing plans to impose reciprocal levies on India and other nations starting April 2, 2025. He claims these tariffs are a response to high import duties imposed on American goods.

As the US remains India’s largest export partner, these tariffs could have significant economic repercussions. Reciprocal tariffs occur when the US retaliates against a country that imposes duties on its exports by applying equivalent tariffs on that country’s goods. While the exact calculation method remains uncertain, past Trump-era policies indicate steep tariffs targeting key industries. The proposed tariffs will impact major Indian exports, including steel and aluminium (already subject to a 25% tariff), pharmaceuticals (India’s leading export to the US), textiles and apparel (facing competition from Bangladesh and Vietnam), and electronics (which risk losing market share). These measures could weaken India’s export competitiveness and overall economic growth.

Higher US tariffs on Indian goods may widen the trade deficit, lower export revenues, and put downward pressure on the rupee. Trade policy uncertainties could also dampen investor confidence, slowing FDI inflows and manufacturing expansion.

Despite these challenges, India can mitigate risks through strategic economic planning. Strengthening the Make in India 2.0 initiative with a focus on resilience, technological advancements, and market diversification will be crucial in reinforcing India’s position in global trade.

How important is U.S. trade with Canada, Mexico, and China?

Canada, Mexico, and China account for 40% of U.S. trade, supplying essential imports like energy products, groceries, automobiles, and intermediate goods crucial for manufacturing. Since domestic production cannot fully meet consumer demand, the U.S. relies heavily on these imports. Imposing tariffs on these trade partners could significantly impact the economy in the short term, as the U.S. cannot quickly increase oil production, grow more produce, or expand manufacturing capacity. Higher tariffs may lead to rising costs for businesses and consumers, supply chain disruptions, and inflationary pressures. Industries dependent on imported raw materials may face production delays and higher expenses, affecting competitiveness. Additionally, reduced trade flows could strain economic growth and job markets. Without immediate domestic alternatives, tariffs risk increasing costs while offering limited short-term benefits, underscoring the complexities of trade policy and economic stability. Strategic measures would be needed to mitigate potential disruptions and ensure long-term economic resilience.

U.S. Tariffs: Boon or Bane for Economic Growth?

The U.S. tariff rate has surged to its highest level since the 1940s after President Donald Trump imposed a 25% tariff on imports from Canada and Mexico and raised tariffs on Chinese goods from 10% to 20%. While an immediate U.S. recession is unlikely, prolonged tariffs could slow economic growth in 2025 and heighten recession risks in Canada. Trade disruptions remain a key concern, fuelling uncertainty and deterring business investment.

North America’s interconnected manufacturing sector, particularly auto production, faces significant challenges due to cross-border supply chain dependencies. Agriculture is also at risk, as nearly half of U.S. agricultural imports originate from Canada, Mexico, and China. Additionally, China supplies $100 billion worth of non-durable goods, including chemicals and pharmaceuticals, making alternative sourcing costly and complex.

Reshoring production is not a short-term solution. Establishing new supply chains demands substantial capital investment, which is difficult in a high-interest-rate environment. Furthermore, labour shortages, an aging workforce, and geographic skill mismatches pose additional obstacles to expanding domestic manufacturing, limiting immediate job creation.

Tariffs are expected to keep inflation above 3% through 2025, increasing costs for essentials like groceries and energy. Many imports from Canada, Mexico, and China have limited substitutes, making alternative sourcing expensive due to logistical and shipping costs. The financial strain will be particularly severe for low and middle-income households, which allocate a larger share of their income to necessities.

The U.S. remains heavily reliant on imports from its key trade partners. Canada, Mexico, and China supply 60% of aluminium, lumber, and energy products. The U.S. also depends on Canadian electricity and crude oil due to geographic proximity. Meanwhile, nearly a third of the fruits and vegetables consumed in the U.S. come from these three countries. Domestic agricultural expansion is constrained by environmental factors, and shifting to other suppliers would add to costs and logistical difficulties.

Although tariffs aim to shield domestic industries, their broader economic repercussions could be damaging. Rising costs, supply chain disruptions, and inflationary pressures could hinder economic growth, affecting both businesses and consumers. Strategic trade policies and long-term investment in domestic production will be crucial to mitigating these challenges.

Following two days of conciliatory moves, Trump placed the tariff hikes on Canada and Mexico on hold for 30 days. The ongoing trade tensions have been marked by fluctuating strategies, including retaliations, negotiations, temporary pauses, and policy reversals. In response, Canada initially imposed a 25% tariff on over $100 billion worth of U.S. goods. Some Canadian provinces retaliated by rejecting contracts with U.S. companies, including Ontario’s decision to scrap an internet deal with Elon Musk’s Starlink and two provinces opting to stop selling U.S. liquor brands.

China, on the other hand, signalled a willingness to negotiate, offering a potential trade deal to purchase $200 billion worth of U.S. goods and services over two years. Meanwhile, India has taken pre-emptive measures to avoid becoming a target of Trump’s next wave of tariffs, including easing restrictions on Harley-Davidson motorcycle imports. In contrast, Trump’s trade strategy appeared successful in the case of Colombia, which conceded after initially resisting U.S. deportation demands.

Conclusion

The ongoing tariff battle underscores the volatility of global trade dynamics and the far-reaching consequences of protectionist policies. While tariffs are intended to safeguard domestic industries, their broader economic impact—rising costs, disrupted supply chains, and inflationary pressures—could outweigh the intended benefits. The uncertainty surrounding trade relations continues to weigh on business confidence and investment decisions, potentially slowing economic growth in the U.S. and increasing recession risks for key trade partners like Canada and Mexico.

As countries navigate this evolving landscape, strategic policymaking will be crucial in mitigating the adverse effects of tariffs. Strengthening domestic manufacturing, diversifying supply chains, and fostering diplomatic trade negotiations will be key to ensuring long-term economic stability. While some nations, like China and India, are taking steps to adapt to shifting trade policies, the long-term effectiveness of Trump's tariff strategy remains uncertain. The global economy's ability to adjust will ultimately determine whether these trade disputes lead to sustained growth or prolonged economic disruptions.