President Trump’s tariffs are upending world trade and causing upheaval in the financial and diplomatic sectors, with close allies questioning the reliability of the United States. The rollercoaster ride has continued to impact the stock and bond markets, despite the temporary pause of most of the tariffs Trump has imposed-–-or threatened to impose.

On a recent episode of Stanford Legal, Professor Alan Sykes, a leading expert on international economic relations and the application of economics to legal problems, joined host Pamela Karlan for a wide-ranging discussion of the legal and economic dimensions of Trump’s tariffs. Sykes is the author of the recently published book, The Law and Economics of International Trade Agreements. Sykes is the Warren Christopher Professor of International Law and Diplomacy.

The following is an edited and shortened version of the podcast transcript, which can be found here. 

What is a tariff?

A tariff is a tax on imported goods. Occasionally it could be on a service, but almost all tariffs are on goods, and it’s collected by the customs service when goods come into the country. Each import shipment has a so-called importer of record who takes responsibility for notifying the custom service of what’s coming in and what its value is and so forth, and they bear the legal liability for the tariff. It’s like a sales tax only it’s only applied to things coming into the country as opposed to everything.

A lot of empirical work has been done on the question of who ultimately bears the cost of a tariff. The studies done of the tariffs during the first Trump administration suggested that the overwhelming majority of the tariff was borne by U.S. purchasers, sometimes the end consumer, sometimes middlemen. One way or another, something like 90-plus percent was found to be borne by U.S. buyers at some point in the distribution chain, and that meant that, a small percentage was borne by foreigners, by the fact that their product becomes more expensive and demand has fallen, so they reduce their prices to absorb the tariff. But historically, at least in recent years, most of it has passed through to American buyers.

A lot of things that we think of as “made in the United States” have components that came from another country. And tariffs go onto those as well, correct?

Generally speaking, yes. You can exempt them and that was done to some extent during the first Trump administration, but with current tariffs that have been announced, and then temporarily paused for 90 days, the president said he wasn’t going to have those sorts of exemptions. So, you would have the tariffs apply to these intermediate goods that become finished products in the United States. That would include, for example, steel and aluminum, which are now subject to 25 percent tariffs, and would include any input product in the supply chain coming into the United States that wasn’t for some reason exempted from the tariff.

Listen to the Podcast with Alan Sykes

Before this latest round of tariffs, what kind of tariffs were put on goods coming into the United States?

To the extent that one could say something about “average tariffs,” they were in the 40 percent range at the end of World War II, and they were negotiated down through the history of the General Agreement on Tariffs and Trade, and eventually the WTO, to where the average U.S. tariff was maybe three or four percent, something like that. It was a huge reduction, and similar reductions were seen in the so-called average tariffs of most of the major developed nation trading partners: the EU, Japan, Korea and so forth. Developing countries reduced their tariffs less, but still their tariffs went down quite a bit as well.

What’s Donald Trump’s theory for why imposing these massive tariffs is a good thing?

There are two hypotheses and he has said things that are consistent with both. He has said he wants to grow manufacturing in the United States and he wants capital investment and new jobs in the manufacturing sector. To that end, he wants to keep out foreign competition and have U.S. companies grow. The competing hypothesis is that it’s all about negotiating, he wants to use the access to the U.S. market as a lever to achieve various things, including reducing trade barriers to our exports and cooperating with the U.S. on other matters. We’ve all heard about the concerns about fentanyl and drug trafficking with Canada and Mexico, and maybe he has other things in mind that he wants concessions on. His end game is unclear.

At the same time, he claims that the tariffs are going to raise huge amounts of money for the government. But it would seem that it’s impossible to both say you’re going to bring the manufacturing into the United States and you’re going to raise huge amounts of money by taxing the goods that are coming into the United States because we don’t manufacture them here. It would seem to be, at most, one of those things?

If you think about tariff revenue as a function of the size of the tariff, it starts out at zero, and then as the tariff gets really prohibitive, it also goes back to zero because nothing’s coming in and therefore nobody’s paying the tax. But if you have a substantial, but not prohibitive, tariff and you keep it in place for a long time, you can raise significant amounts of revenue. It won’t be enormous in terms of the U.S. federal budget, but it would certainly be tens of billions of dollars. So, it can be a revenue source, but that would require that the tariffs remain in place for a long period of time, and that they’d be at a level that’s calculated in a sort of a Goldilocks way: not to choke off trade, but high enough to be substantial enough to generate revenue.

If you were a car manufacturer, you’d have to be confident that the tariffs are going to stay in place for a while to make the capital investments in building an automobile plant here. 

Yes, I’m very skeptical that the current administration will be able to stimulate significant investment because, as you say, it only makes sense, particularly if you need a lot of upfront capital investment, which can take years. Not to mention finding and training a workforce. You wouldn’t do it unless you thought the tariffs would remain in place potentially for decades. In my mind, no one would think that these tariffs would necessarily outlast the Trump administration if they stay in place that long.

The president seems to think that if we run a trade deficit with any particular country in the world, it must be because that country is doing something wrong, and is taking Americans for suckers. Is that how trade works? It’s just a series of bilateral relationships and we need to run either even or a trade surplus with every trading partner?

In my view, the president doesn’t understand the meaning of bilateral trade deficits and their economic significance. First of all, if you took him seriously, that would imply that we were being unfair to any country that we have a surplus with, which I don’t think we are. But more generally when I teach this to students, I start out by saying there’s no reason at all to expect bilateral trade to be balanced. I run a huge trade surplus with Stanford University that buys my services and I hardly buy anything from them, and I then have a big trade deficit with Safeway and all sorts of places that don’t buy a thing from me. The same is true for countries. Certain countries specialize in producing the things that you don’t make at home and you really want, and other countries really want the stuff that you do make at home.  

How is it that the president can just order these tariffs and then turn around the next day and say, “just kidding,” and then change the number again? How does he have the power to do this?

There are some who’ve been talking about trying to mount legal challenges to that, but the problem is that the Congress, through various statutes has delegated a tremendous amount of authority to the president. The Trade Expansion Act of 1962 has a provision in it that allows the president to take trade measures for national security purposes. That’s been the predicate for the steel and aluminum tariffs. The Trade Act of 1974 includes a provision that allows the president to take trade measures in response to unfair practices, discriminatory practices abroad that harm U.S. commerce. That’s been the predicate for most of the China tariffs. And then there’s the International Emergency Economic Powers Act, which is basis for the reciprocal tariffs that were announced last week, which is  a very confusingly worded statute, but most people seem to think that the wording allows the president to take measures to regulate imports and exports in the event of a national emergency, which the president alone can decide exists. I think most Washington trade lawyers doubt there’s much basis for a legal challenge.

What about international organizations? Is the WTO going to intervene in some way in all of this?

No. The U.S. has effectively withdrawn from the WTO. We stopped obeying the rules in the first Trump administration. We continued, by the way, violating rules in the Biden administration. Some of the Biden subsidy programs and the Inflation Reduction Act were pretty flagrantly illegal under WTO law. And now Mr. Trump has gone in the direction of just essentially ignoring WTO commitments including not just the tariff ceilings that were negotiated in the WTO, but the most favored nation principle, which requires us to charge the same tariff to every WTO member. The dispute settlement system is paralyzed because the U.S. has blocked the appointment of judges to the appellate body. And even if it wasn’t, I think that the Trump administration would just ignore adverse rulings if they came down the pike.

Pam Karlan: So, there’s not any real effective domestic response, and there doesn’t seem to be an effective international response. So, is the ultimate discipline here going to come from the market in some way? 

There’s going to be political pushback when the market goes down. Business will be pushing back. He’s lost the support of people who supported him in this last election cycle. Some fairly prominent billionaire-types have been very critical of the tariffs. If the economy goes into recession, there’s going to be a pretty big political price to pay.

We talked about what President Trump might be contemplating here, and one of the theories was that he’s threatening these tariffs so he can do a deal, similar to how, when he was in business for himself, he would threaten to not pay for something that his companies had bought, and then try to renegotiate the price of things. To what extent does America have to have credibility to do those deals? And to what extent do you think that his slapping tariffs on and off undermines the ability to do a deal in the first place?

Since Mr. Trump has reneged in one way or another on all of our prior trade deals, why would countries trust a future deal with our current administration? I think that’s a real problem with the credibility of the United States has been significantly damaged here. We also don’t really know what the president wants in these trade deals. We hear about unfair practices and high reciprocal tariffs, but the truth is the tariffs abroad in most of our major trading partners are not all that high and what else beyond that would the president ask for and could they plausibly give it? Who knows?

Could you explain this 90-day pause? What’s the expectation that we’ll negotiate some new deal in those 90 days?

If you listen to the administration, we have 75 countries calling us wanting to negotiate. These are bilateral deals, which helps because the WTO and GATT were multilateral, and you had to have a whole bunch of countries coming to the table all at once. But if you think back to the original negotiation of the U.S. Canada Free Trade Agreement and then the NAFTA negotiation, those all took years. It’s hard to imagine comprehensive new trade deals being done with 75 countries on a bilateral basis in 90 days. It doesn’t seem plausible.

Trump says he has these great law firms on the hook now, who can do these negotiations, but I take it we really want government officials doing these, not firms that have their own international trade practices?

We need somebody who knows about international trade law and economics first and foremost, which is presumably the USTR office and maybe some folks at Commerce. A typical law firm might have somebody who knows a little bit about it, but not necessarily. I don’t see how you can just turn it over to a law firm and expect anything sensible to come out of it.

How does this all end? How can we get out of this?

I was in Geneva about a little less than a month ago. There was already a tremendous amount of anxiety, and the thinking over there was that the rest of the world tries to hold the WTO together and just lives with the fact that the U.S. is going to effectively withdraw from it for the next few years. And then the hope is that a future U.S. administration will come back to the multilateral trading system at some point in the future. So that’s the hope for getting out of this situation. And the question is, will so much damage have been done before that happens that it won’t be easy to do.

There are a lot of China hawks in Washington, including some big China hawks in the administration. And you notice that China did not have its tariffs paused. We’re now in a situation where we have almost prohibitive tariffs in both directions, and there are a lot of folks in Washington who talk about China decoupling. 

Although there was euphoria in the markets when the pause was announced, I think people now are thinking about it and they’re saying, “Wait a minute. We got a 90-day pause, but we have to do bilateral agreements with 75 countries and China’s been cut out of the economy altogether. It’s worrisome. It’s really worrisome.

Alan O. Sykes is a leading expert on the application of economics to legal problems. His most recent scholarship is focused on international economic relations. His writing and teaching have encompassed international trade, torts, contracts, insurance, antitrust, international investment law and economic analysis of law. In 2010, he founded Stanford Law School’s LLM program in International Economic Law, Business and Policy (IELBP). Professor Sykes has been a member of the executive committee and the board of the American Law and Economics Association, and served as reporter for the American Law Institute Project on Principles of Trade Law: The World Trade Organization. He is on the Board of Editors for the Journal of International Economic Law, the World Trade Review, and a member of the editorial board of the American Journal of International Law. He formerly served as an editor of the Journal of Legal Studies and the Journal of Law and Economics. He is also a former National Science Foundation graduate fellow in the Department of Economics at Yale University.