Uncertainty is looming large across global financial systems, with a global stock market crash unfolding across several different exchanges worldwide. In what is being dubbed as the ‘Black Monday Bloodbath’, investors have lost hundreds of billions of dollars as U.S. President Donald Trump’s unprecedented global tariffs announcement continues to shock the world of trade and economics.
On Monday, Tokyo’s Nikkei 225 index lost nearly 9 per cent shortly after the market opened while earlier in the day, trading in Japanese futures was suspended due to the market hitting circuit breakers. Hong Kong’s Hang Seng index was down 8 per cent in early trade.
The Indian stock markets, after holding off selling pressure Friday, tracked Asian shares to plunge 5 per cent in early trade Monday, amid escalation concerns. This came even as the American President defended his tariffs over the weekend while he was headed for a golfing event, claiming a lot of countries are ‘dying to make a deal’ and that any adjustment in the stock markets is transitory.
The likely tariff endgame
While analysts who said Trump is unlikely to walk his tariff talk have now been proven wrong, there is a growing view that these tariff will not last. There are perhaps a few different ways in which the endgame could eventually play out. One possibility is that the reverses in the American stock markets and pressure from his own supporters would force Trump to temper the tariff push.
Secondly, the American president might indeed manage to get concessions from some countries such as Vietnam or Cambodia. Once that happens, Trump could declare victory of sorts and pull back, at least partly.
Another possibility going forward is that the US Congress could step in to take back the power accorded to the White House on tariffs. There are likely legal challenges too over the invocation of presidential emergency powers over what is evidently not an emergency.
Simplistic tariff Calculations, but multiple rollout complications
The market woes were compounded by Trump’s intention to stay on with the tariffs, despite the ostensibly over simplistic manner in which they were calculated and the problem likely in its implementation. In fact, a query to Chat GPT asking for a formula to calculate reciprocal tariffs that a country can impose on its trading partners having surpluses with it, results in the AI bot throwing up a prescription that basically strives to even out the trade imbalance:
T=(trade surplus of the trading partner/trade deficit the country imposing the tariff)×Base Tariff Rate.
This is not too far off from the formula used by the Trump White House. While this is not to assertively suggest that someone in the Trump White House may have used an LLM to come up with its rather over simplistic tariff methodology, most trade experts concur that the formula is inherently flawed as it assumes that the fair trade balance is zero. Which is precisely what the OpenAI bot attempted to do while coming up with this formula. That comes from the AI bot attempting a mathematical solution to the problem, rather than solving the problem with any understanding of the nuances of trade.
While the prescriptive formula may be over simplistic, the execution of the formula is likely to be pretty complicated for the American Department of Commerce, given that Trump has chosen to slap differential tariffs on almost all of its trade partners. All of it is based simply on just one year’s trade trend.
For instance, the tariff on the EU is 20 while, just across the English Channel, the UK is faced with a 10 per cent tariff. What would prevent a German company to first ship its product to a port in Britain, and then reship the product into the US. To avoid this, the US trade department would need to draw up different rules of origin for each country and US customs will have to ensure adherence to it. That would be a potential minefield.
The inherent assumption in Trump’s tariff spectacle was that it will not elicit tit-for-tat responses from its major trading partners. While economists would attest to this, saying it does not make practical sense to resort to retaliation, there’s an argument on the other side: that every country has its own political compulsions and there is an element of national price involved when something of this kind happen, which would force the kind of response that has come in from China and is expected from the European Union.
Also, given that the US runs a trade surplus in services with most countries, the latter could exercise the option of imposing a large reciprocal tariff against American services. Brussels could end up trying that option.
Besides the tariffs slapped on uninhabited islands with just penguins as residents, there are other ironies in the basic construct of the Trump tariffs. Landlocked Lesotho, one of the poorest countries in Africa with just $2.4 billion in annual GDP, has been hit with a 50 per cent tariff rate, the highest rate among all countries on the list, only because it exports diamonds to the US and its people are too poor to afford American goods and services. Madagascar too has faced the brunt, because it export vanilla to America, alongside Bangladesh, another relatively poor garmenting nation. Taiwan, a traditional American ally that is in an existential battle for survival against an increasingly belligerent Beijing, has been slapped with a tariff, although chips — its biggest exports — could be exempt. The country exemption list, ironically, includes Russia and North Korea.
The objectives of these tariffs, as stated by Washington over a period of less than a month, too have been shifting: ranging from national security concerns (fentanyl and immigrant inflows), to the changed narrative of a need to balance trade deficits and putting a stop to America being shortchanged. Another reason being offered by the Trump administration is that the exercise will bring in the money for the proposed tax cut expected later this year.
Domestic backlash mounts
Higher tariffs and the trade war resulting from Trump’s actions would most certainly lead to higher inflation in the US, and that is resulting in a brewing opposition domestically, including within sections of the Republican Party.
This, combined with runaway deficits and a possible dilution of institutional autonomy, could lead to foreigners beginning to rethink whether they should lend unlimited money to the US Treasury — which has been a given thus far — analysts say. That could mark the beginning of the end of a big advantage Washington DC has had so far – the advantage of having the global reserve currency and the ability to live beyond its means.
Such a shift could mark a possible watershed moment — of the scale, perhaps, of the decision in early 2022 to freeze Russian foreign assets, which forced central banks around the world, including RBI, to buy physical gold rather than derivatives or exchange-traded funds that track the yellow metal’s price. The US Federal Reserve’s decision to continue its rate-cut cycle depended strongly on the result of the presidential election — and experts believe that the full scale of the cycle may now be at risk. While Trump’s promised tax cuts and tariff barriers could end up stimulating the American economy, at least in the short term, analysts predict they could eventually stoke inflation — and likely force the Fed to end its rate-cutting cycle sooner.
Tariff ineffectiveness, retaliatory measures
A study by economists at the Massachusetts Institute of Technology, Harvard University, the University of Zurich and the World Bank had concluded that Trump’s tariffs in his last term neither raised or lowered US employment. Despite Trump’s 2018 taxes on imported steel, for instance, the number of jobs at American steel plants was barely impacted. On the other hand, the retaliatory taxes imposed by China and other nations on US goods had “negative employment impacts,’’ especially for farmers, the study found. These retaliatory tariffs were only partly offset by government aid that Trump was forced to dole out to farmers, partly funded by the incremental revenues raised by the tariffs.
This time around, China, after some initial restraint, has reacted to the tariffs almost in full. There is also a possibility that the EU could go ahead with some retaliatory curbs on digital services coming in from the US, which could potentially open up a whole new front on this trade war. Bilateral trade deficits are a lot more than just factory goods and a digital onslaught, in some punitive manner, could end up impacting Meta, Alphabet and other companies that are at the heart of the American innovation story and have led the bull run in US stocks over the last 12 months. A hit on these services by Brussels could be troublesome for Washington, DC., given that European regulators are already scrutinising Apple and are taking a close look at Meta’s practices, among other major American companies that are in the regulatory crosshairs across the Atlantic.
That could further trigger the bleeding for the American stock markets, as some have predicted, and could have a continuing ripple effect in other markets.
