Who will Trump's tariffs actually hurt?

From Challenger Chief Economist Dr Jonathan Kearns

This week, incoming US President-elect Donald Trump announced that on his first day as President he will impose tariffs of 25% on imports from Mexico and Canada. These tariffs are aimed at forcing these countries to crack down on illegal immigration and drug smuggling.

There is a 30-year old free trade agreement between Canada, Mexico and the United States, which President Trump renegotiated in his first term. With free trade on most goods, and easy movement of goods with a land border, there is substantial trade between the three countries. Exports to the United States are over 20% of Canadian GDP, and 30% of Mexican GDP. A substantial 25% tariff will significantly reduce exports to the US and so Canadian and Mexican GDP.

However, many of these Canadian and Mexican exports contain inputs that are sourced from the United States, or are inputs used in production in the United States. As a result, a reduction in trade with Canada and Mexico will hurt many US businesses and workers. Among the biggest US imports from Canada and Mexico are machinery & electrical goods and resources, many of which are inputs, and cars, many of which have US manufactured components. US consumers will also face higher prices from tariffs. No doubt Canada and Mexico will retaliate which will reduce demand for US exports.  

A clear example of cross-border trade in car inputs is spelled-out in this research paper. The author shows that three-quarters of the foreign inputs in Mexican car exports to the United States are sourced from the United States. It is economical to use inputs from other countries in the free trade agreement area. In contrast, for Mexican car exports to Germany, only 18% of foreign inputs are sourced from the United States. Inputs from Germany account for 38% and from Poland another 8%. For Mexican firms exporting to the European Union there’s a more favourable treatment if more inputs come from within the EU.

Given the negative impact of tariffs on firms, workers and consumers in the US, not to mention on Canada and Mexico, expect furious lobbying and negotiating between now and inauguration day on 20 January. A 25% tariff is likely an opening bid to strike a deal.