America’s war on trade gaps has a highly risky flip side

What dropped jaws wasn’t just the size of US import barriers, but the formula used for what it billed as ‘reciprocal tariffs.’ For every target country, 2024 data was taken and its tariff rate set at half the US trade deficit—or its excess of merchandise imports, in dollars, over exports—as a percentage of imports from it. Willy-nilly, this gave trade gaps an official cloak of villainy. 

Also Read: Kaushik Basu: Trump’s tariffs will only steepen America’s slide

But a policy war aimed at a balance with each trading partner cannot be won. By a crude analogy, it’s like asking a café to buy wares to cover one’s coffee bill and doing likewise at every shop. America’s size means some form of autarky is an option, no doubt, but that raises a bigger question on the flip side: Does it expect its own savings to fund overall investment?

After all, balanced trade would imply all that is invested at home must come from national savings, rather than being partly funded by capital inflows. 

To grasp why, consider what GDP is composed of: consumption, government spending, investment and exports added up, less imports. If we deduct consumption and state expenditure from GDP, we get national savings. So the latter is equal to investment plus the trade gap (or exports minus imports). 

Also Read: Vivek Kaul: ‘Stupid, stupid, stupid’ is the only way to describe US tariffs

Now, if a country reduces its trade gap to zero on the whole, which is less difficult than doing it in each bilateral case, savings will match investment. However, the advantage of an open economy is that foreign inflows allow extra investment to the extent of its trade deficit. This suits India, for example. It also lets the US save little, consume a lot and be financed by others, with this benefit magnified by the dollar’s role as the world’s currency. Overseas demand for ‘zero-risk’ assets like US Treasury bonds grants it the privilege of low-cost loans that help fuel its prosperity by keeping credit cheap. 

So far, its slurp-up of a ‘global savings glut’ has served it well, barring the odd asset bubble inflated by outsized stimulus policies enabled by its creditors. The Trump camp’s basic grouse, it seems, is that US factory jobs got hollowed out as exporters like China stuffed their export earnings into Treasury bonds, thereby strengthening the dollar and denying the US a chance to cheapen its exports and tilt trade flows back into balance.

Granted, capital flows often distort the exchange rate’s role as a balancer. Even so, the US has put its economy at more than just recession risk by aiming its fury at uneven trade. An imbalance of over $1 trillion also spells capital abundance, which even partial autarky could undo. And if the dollar gets hobbled, the US would lose a key privilege. 

Also Read: Raghuram Rajan: Who says the dollar is an exorbitant burden for America?

Alas, Trump’s end-game remains a riddle. 

While he keeps the world guessing, India must double down on scenario planning. Should the power of Big Capital show signs of shifting away from the US, we’ll need to decide whether to resist, rival or support such a shift. 

For an ‘Asian Century’ to include more than a China-led common market in the East, we should review how we’re placed in today’s game of great-power rivalry, widen our trade outreach and keep track of every policy twitch. The US may yet roll its tariffs back, but we can’t bet on it.