Trade: tariffs

The election of Donald Trump has brought tariffs into the news as he uses them as an aggressive instrument of policy to achieve both trade and wider policy objectives.

What are tariffs and why do they exist?

Tariffs are taxes charged on the import of goods from foreign countries. While historically tariffs were used as a source of revenue for governments, they are now used mainly to protect domestic industries from foreign competition. They do this by increasing the price of imported goods in order to persuade consumers to purchase domestic products instead.

Who pays tariffs?

In general, the importer pays the tariff. Tariffs are collected by the national customs authority of the country into which the goods are being brought (so tariffs on goods entering the UK are paid to HMRC). 

Exporters do not usually ‘pay’ the tariff as such ¬– rather, they experience adverse effects from their product being made more expensive on the foreign market. This means they may have to cut their prices to remain competitive, for example or move production inside the country to enable them to continue to supply without bearing the tariff.

How are tariffs charged?

Almost all tariffs are set as a percentage of the value of the goods in question. For instance, the current UK tariff on cars is 10% – so if a car imported from outside the UK costs £10,000, the tariff will be £1,000.

Some agricultural tariffs are set in relation to the weight of the product, rather than the value. For example, the UK tariff on butter is £158 per 100kg. So if a UK-based importer were to import a single kilo of butter from a country with whom the UK does not have a free trade agreement, regardless of the price, they would pay a tariff of £1.58. 

There are also more complex tariffs that combine a percentage and a per-kilo charge. These apply to highly sensitive agricultural products such as beef. Others still are based on the weight of a specific ingredient used in the product – for example, the tariff on chocolate is based in part on the weight of its sugar content.

Are there any restrictions on tariffs?

The ability of national governments to set tariffs is restricted by international commitments. Most major trading nations are members of the World Trade Organization (WTO) and so are subject to the obligations in its General Agreement on Tariffs and Trade.
The first of these is the ‘most-favoured nation’ (MFN) obligation: WTO members must charge all other members the same tariff unless they have a free-trade agreement (FTA) with them. This is often referred to as trading ‘on WTO terms’.

The second is that WTO members must not exceed the tariff rates they have committed themselves to in their schedules (essentially long tables of tariffs, itemised by type of goods, which members submit on joining the WTO). These maximum tariff rates are called ‘bound tariffs’. Some WTO members choose to apply tariffs below their ‘bound rate’ because they consider that a lower tariff rate would benefit their economies by encouraging trade. Countries can though use tariffs as a form of trade defence if they think another country is dumping goods on them, or use them to protect national security and president Trump has used this as a rationale for tariffs in the past.

Many countries also choose to sign FTAs to sit on top of their WTO commitments. Once a country has signed an FTA, the tariffs it can charge on imports from its partner (or very occasionally partners) are limited to the levels prescribed in that agreement. But it will continue to charge its standard WTO tariffs on imports from countries with which it doesn’t have an FTA.

Countries or trading blocs can also form customs unions. The European Union’s (EU) customs union is one example. In general, there are no tariffs on the movement of goods between members of a customs union, and a common tariff is placed on the import of goods from outside the union. In the case of the EU, this is the ‘common external tariff’.

Who sets the UK’s tariffs?

While being an EU member state and then in the transition period, the UK was subject to EU customs legislation, including the EU’s common external tariff (as well as enjoying free trade within the EU member states). 

Since the UK left the EU, it sets its own Under the Taxation (Cross-border Trade) Act 2018, the UK’s tariff is to be set in statutory instruments made by the Treasury. The Treasury is required to consider a number of factors before it sets the tariff, including the interests of producers and consumers in the UK. It must also have regard to any recommendation made by the Department for Business and Trade (DBT).

What tariffs does the UK apply?

The ‘UK Global Tariff’ applies to all countries with which the UK does not have an FTA. The rates in the Global Tariff broadly follow EU tariffs with some exceptions for goods where the UK has no domestic production. This is a more conservative approach to tariffs than was originally proposed in February 2019 under its “temporary tariff regime” which would have unilaterally removed tariffs from 87% of goods imported into the UK. 

Since leaving the EU, the UK has concluded new trade deals with countries such as Australia and New Zealand, which have removed most tariffs on bilateral trade. 

Does the UK have tariff free trade with the EU?

Yes. The Trade and Cooperation Agreement, which came into force on 31 December 2020, removes tariffs from goods traded between the UK and the EU, as long as they have sufficient local content to qualify. But exporters/importers have to prove that goods do qualify by meeting the rules of origin test for that good set out in the TCA. Evidence suggests that many exporters simply prefer to pay the tariff instead to avoid the complex paperwork involved. Those rules of origin could be eased for some goods if the UK joined the Pan-Euro-Mediterranean Convention (PEM) which would allow content from a wider range of countries to be counted as local.

What tariffs did president Trump impose after returning to the White House – and why?

Since taking office president Trump has (as he did to a lesser extent in his first term) shown a willingness to use tariffs seemingly both for trade policy objectives (to boost US manufacturing at home and correct what he sees as unfair trade balances which he sees as countries taking advantage of the US), but also other policy objectives. His first – very brief – threat of tariffs was against Colombia, in order to get them to reverse a decision not to let a deportation flight from the US land. They backed down and Trump withdrew those tariffs.

Trump has also engaged in on-off threats of tariffs on Canada and Mexico despite trade between the three being governed by the US-Mexico-Canada Agreement which was negotiated during his first Presidency. He has said that the aim of these tariffs are to stop the flow of fentanyl and illegal migrants over the border. There is now a temporary exemption for about half goods traded.

However, president Trump has persisted with tariffs on Chinese imports, introduced at the beginning of March.

But president Trump has also imposed a general tariff on all steel and aluminium imports into the US which took effect on 12 March (at 4.00 am GMT). He briefly threatened to double the tariff on Canadian imports – but has removed this when now the Premier of Ontario backed down on his counter-threat of a 25% surcharge Canadian electricity exports to the NE US. 

At the end of March, president Trump imposed new 25% tariffs on car imports to the US – this hits UK car makers (cars are the UK’s biggest manufacturing export to the US) but has much more severe effects on Canada, Mexico, Germany and South Korea. Those tariffs came into force on 2 April.

What happened on “Liberation Day”? 

President Trump used an event at the White House on 2 April to announce his tariffs on the world and declare the day when America was "made wealthy again". The US president imposed a "minimum baseline tariff" of 10% to "help rebuild" the US economy, while some countries were hit with tariffs as high as 50%. A few sensitive sectors like pharmaceuticals were exempted pending further action.

The White House claimed that the tariffs imposed on countries were ‘reciprocal’ and based on their calculation of total tariff and non-tariff barriers imposed by other countries on the US. This turned out to be a formulaic of the US’s trade deficit in goods divided by total goods imports from that country, which bears little relation to the trade barriers other countries have imposed. In practice, the US will now be applying much higher tariffs on imports than other countries charge on imports from the US. In order to be “kind”, president Trump then roughly halved the figure produced by the formula. The calculation takes no account of services trade in which the US usually performs strongly. Those tariffs were due to come into effect a week later.

What happened on 9 April?

The 10% tariff took effect on 5 April, while the higher “reciprocal tariffs” kicked in on 9 April. But then the president backtracked.  The minimum baseline tariff of 10% continues as do the steel, aluminium and automotive tariffs and the special tariffs on Canada and Mexico. But hours after the reciprocal tariffs took effect president Trump “paused” them for 90 days making a sole exception of China. 

The rationale for the pause is unclear. It could be that the administration took fright with the collapse in share and bond prices – the latter putting up interest rates both for the government and for households. It could be that they were spooked by the prospect of Trump-induced inflation and recession. Or it could be because they genuinely wanted time to negotiate with the over 70 countries the president claimed had been in touch seeking to negotiate new trade deals. There also seem to have been very differing views within Trump’s top team about the right strategy on tariffs. 

What is president Trump trying to achieve with tariffs?

One reason that policy seems to be so mercurial is that president Trump seems to have three – potentially inconsistent – motives for tariffs:

1. To re-shore manufacturing jobs into the US. This requires him to levy tariffs for long enough for businesses to decide to move production into the US, and for US manufacturers to be confident enough to expand manufacturing capacity. In that case tariff revenue should fall over time as the US becomes less import dependent.

2. To achieve better access for US goods to overseas markets or to pursue other policy goals, and to secure changes to regulations that he thinks impact US business. In this case, tariffs are a temporary tactic and should be removed if the target country meets US demands.

3. As a revenue source to allow the US government to cut other taxes – that means tariffs need to be permanent but there also needs to be relatively little import substitution.

President Trump is imposing these tariffs using various emergency and national security powers which means he can act without Congressional authority – though Congress could in theory revoke those powers. 

How is the UK reacting to Trump’s tariffs?

The UK has not retaliated against the steel and aluminium tariffs – though the business secretary Jonathan Reynolds had remonstrated with the US over their decision, calling it “disappointing" and is consulting on a potential list of retaliatory tariffs. Following ‘Liberation Day’, Reynolds described the US as “our closest ally, so our approach is to remain calm and committed to doing this deal, which we hope will mitigate the impact of what has been announce.” Keir Starmer said the UK would react with “cool, calm heads” and noted that the government had a “range of levers at our disposal and we will continue our work with businesses across the country to discuss their assessment of the option.” The UK still appears to be hoping it can land a trade deal of some sort with the US to alleviate some of the impacts of tariffs.

The UK did try to argue against being hit by US tariffs on the basis that unlike other countries it does not run a goods surplus with the US. That appears why the UK is subject to the baseline tariff rather than a success for UK trade diplomacy. Now the UK faces the same tariffs as most countries (though the threat of higher tariffs still hangs over those whose tariffs are “paused”).

How are other countries reacting to Trump’s tariffs? 

Canada, Mexico, China and the EU all announced retaliatory tariffs, and China has also said it will take the US to the World Trade Organization (showing its adherence to the rules based international trading system, unlike the US). Most of these tariffs are designed to hurt US businesses while minimising impacts on domestic producers. The EU announced on 10 April that it was suspending its retaliatory tariffs in response to the steel, aluminium and automotive tariffs in response to the pause on the ”reciprocal” tariffs. 

China and the US are now engaged in an escalating trade war with eye-wateringly high tariffs being applied on both sides. At the moment neither side looks like backing down, and given the tow trading blocs, this will still have major implications for the world economy.  Many countries could also be affected if China diverts goods initially intended for the US into other markets.  The UK and the EU are already looking at the potential need to trigger trade defence measures.

What will be the economic impact of US trade policy on the UK? 

Modelling by the OBR suggests US tariffs will hit growth in the UK – but by how much depends both on how widespread the tariffs are and the extent to which there is retaliation. The Economic and Fiscal Outlook, published alongside the 2025 spring statement, illustrated three scenarios, none of which quite accord to the measures now taken. Those scenarios  showed that a universal tariff met with retaliation by countries including the UK could reduce growth by 1% in 2026/27 and the long-run impact would be to knock 0.75% off GDP permanently. (That compares with the OBR’s 4% permanent long-run economic hit from Brexit).

The UK economy suffers a bit less if other governments, including the UK, do not retaliate (but that assumes retaliation does not lead to a change in policy). If other countries, including the UK, did not retaliate, the OBR estimates that the permanent hit to GDP would be around 0.3%.  

Whatever happens, uncertainty also has a dampening effect on consumer and investor confidence. 

Will the US economy suffer from tariffs?

Imposing tariffs raises the costs of imports, adds to inflation and reduces internal competition, though it may also protect jobs and lead to some onshoring of production. But the US economy is quite closed (meaning imports and exports make up a smaller share of its economy than most) so is less vulnerable to these impacts than many other countries which are more dependent on trade.

However, there will be some specific sectoral impacts that will be aggravated if countries target retaliation.

The US economic outlook seems to have worsened considerably since president Trump took power. Business confidence is deteriorating, the inflation prospect has worsened and the stock market and dollar have fallen (although there was some rebound after the pause was announced). President Trump initially suggested that this is just a period of adjustment and not something he is concerned about but worsening prospects may have contributed to his partial U-turn.

Will the UK seek closer economic ties with the EU to mitigate the effects of Trump trade policy?

In its manifesto the government said it wanted to improve what it termed the “botched Brexit deal” but only highlighted three areas for improvement – a deal on sanitary and phytosanitary regulation that would reduce friction in agri-food exports, an agreement to ease restrictions for touring artists and on mutual recognition of professional qualifications. While these would all offer sectoral benefits, none move the dial economically. 

But a trade war with the US will lead to more pressure on the government from some quarters to restore deeper trade links with the EU, others will argue that we should prioritise the US and can use Brexit flexibilities to do so. It is also possible that special deals with the US on, for example, agriculture or digital, get in the way of a deeper reset. At the moment the government is sticking to its line that it has no desire to choose between the EU and the US.

The geopolitical turbulence unleashed by the Trump administration has given new impetus to defence and security co-operation between the UK and the EU with an agreement likely to be concluded by the first UK-EU Summit since Brexit on 19 May. A sticking point may be whether UK companies can benefit from increased EU defence procurement – from which they are currently excluded.