Please see below, an article from EPIC Investment Partners providing a brief analysis of the key factors currently affecting global investment markets. Received this morning – 31/01/2025
This weekend should bring clarity on whether proposed tariffs on Canada, Mexico, and China will be enforced, allowing for a better assessment of their impact on the US trade deficit.
The US trade deficit has surged since the 1990s, evolving from a manageable issue to a persistent challenge. A monthly deficit of $8 billion in the mid-90s now exceeds $80 billion, sometimes surpassing $100 billion. Understanding its causes and evaluating policy responses is critical.
China’s rise as a manufacturing hub has been a major driver. After joining the World Trade Organisation in 2001, China leveraged its low-cost labour force, accelerating US manufacturing offshoring. Imports from China soared, while US exports lagged, widening the trade gap. Oil imports have also played a role. Despite increased domestic production, the US remains a major crude oil importer. Fluctuations in global oil prices, driven by geopolitical tensions, further strain the trade balance.
Beyond China and oil, trade imbalances with Mexico, Canada, and the European Union remain substantial. The automotive and electronics industries, heavily reliant on North American imports, illustrate how integrated supply chains complicate reshoring. Currency fluctuations and uneven economic growth further hinder deficit reduction. The decline in US manufacturing jobs has hit industrial regions hard, while growing reliance on foreign capital to finance deficits has driven up demand for the dollar. A stronger dollar makes US exports more expensive and imports cheaper, worsening the trade imbalance.
Tariffs have been promoted as a solution, based on the idea that making imports more expensive will encourage domestic production. However, tariffs do not directly impact trade balance figures, as they are collected by the government. Rather than reducing the deficit, they add costs for businesses and consumers reliant on imports. Since the trade deficit is primarily driven by the gap between national savings and investment rather than the price of individual goods, tariffs often fail to yield meaningful improvements.
Trump’s proposed 25% tariffs on Mexico and Canada have fuelled debate. While they may appear drastic, their actual economic impact will likely be limited. Many imports from these countries lack domestic alternatives. In industries like automotive manufacturing and electronics, reshoring is unrealistic. Instead, businesses will likely shift supply chains to lower-cost nations such as Vietnam, South Korea, or Taiwan, limiting tariffs’ effectiveness.
If businesses switch imports to other countries rather than sourcing domestically, the additional cost to US consumers will stem from slightly higher prices of alternative suppliers, not the full 25% tariff. Companies may also cut costs and absorb part of the increase rather than passing it entirely onto consumers. The strong US dollar further mitigates inflationary pressure by keeping import prices low. While these tariffs may generate headlines, their actual impact on trade balances and consumer costs will likely be less than expected.
The most effective ways to improve the trade deficit are reducing the budget deficit and weakening the dollar. A lower budget deficit would reduce reliance on foreign borrowing, easing capital inflows that push up the dollar’s value. Preventing excessive dollar appreciation would make US exports more competitive while making imports more expensive, narrowing the trade deficit. A weaker dollar would encourage domestic consumption and boost exports. Without addressing these fundamental issues, trade imbalances will persist, regardless of the level of tariffs imposed.
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Alex Kitteringham
31st January 2025