Will there be a trade war?

President Donald Trump is making headlines as he demonstrates how the US can extend its influence worldwide. From Gaza to Ukraine, Canada to Colombia, and the European Union (EU) to China, the president has strong views and intends to transform things.

He thinks American power has not been well used or respected in the last four years. He thinks the US has been too generous with its money in overseas aid, in support for NATO and financing the Ukraine war. He thinks the world has used tariffs, devaluations and special taxes against a fair trade for the US, resulting in some mighty trade deficits.

This time round he has hit the ground running with a more loyal team - and is determined to gain respect and generate change for the benefit of the USA. He wants peace in the Middle East and Europe. He wants lower taxes, and he wants to stop the flow of migrants into his country. He will not let international rules or courts get in his way.

Allies and partners are worried that he will not play by the rules of the international legal and trading systems. They are used to steering their policies by the rules of the World Trade Organisation, the Paris climate treaty, and the United Nations’ (UN’s) work on sustainable development and help for emerging economies.

These organisations seek to obey the rulings of the International Court of Justice and the International Criminal Court. They need to check their law, because President Trump is creating a sovereign UA that is largely unrestricted by international law. He is taking the US out of the ‘net-zero’ treaties. He has cancelled the subscription at the World Health Organisation, as it plans new rules to govern member state responses to pandemics.

The US does not accept the dispute reconciliation judgements of the World Trade Organisation. It has never accepted the jurisdiction of the International Criminal Court despite assisting with its establishment. Since 1986, it has been selective about the UN’s International Court of Justice (ICJ). It reserves the right not to appear when a case is brought against it, or to decline to accept the judgement if it loses a case. Anyway, the enforcement mechanism for ICJ judgements is sanctions imposed by the UN Security Council, where the US has a veto anyway.

Europeans have always been keener on international law. They take these global courts more seriously and have built many of the international legal features into their own European courts. These include is the European Court of Human Rights, which interprets the European Convention on Human Rights, the Council of Europe, which has the goal of upholding human rights, democracy and the rule of law in Europe – and the European Court of Justice, which is binding on all EU members.

What is the end game?

So, what does President Trump want to achieve from his tariff threats and deal offers?

The returning occupant of the Oval Office took aim at Canada and Mexico with threats of 25% tariffs on their imported goods. He says these mooted barriers against the US’s two closest and most important trading partners is designed to get them both to assist the US in policing their long land frontiers. He wants the two countries to stop illegal migrants getting over the border and to end the trade in dangerous drugs.

The tariffs have been suspended for a month, pending each country putting in place stronger measures to limit these problems. A Trump team will review progress and decide if enough has been done to warrant further suspension of the tariffs

Mr Trump pushed back hard with tariff threats on Colombia when it objected to the US method of sending undocumented migrants back to their country. Colombia met US demands – and the tariffs did not get imposed.

The president wants a new deal with Greenland. He has seen the way Greenlanders are not happy with being a Danish colony. Polling also says they do not wish to become a state of the US, so a compromise is likely. The US could come to an agreement about offering a bigger military presence as a deterrence to hostile powers in return for US companies having more access to Greenland’s resources.

The reason Greenland has not declared independence already is probably the grant they receive from Denmark to help with their welfare state costs. The sum is not significant in US budgets. Iceland became independent from Denmark in 1944 and could also be part of the realignment.

In Ukraine, President Trump wishes to be tough on both sides, warning Russia he could help Ukraine make a bigger fight of it – and telling Ukraine it needs to compromise. He wants a negotiated peace and is planning a meeting with Putin which he thinks might give it a push.

In Gaza, he will continue the pressure to extend the ceasefire and to negotiate some of the intractable issues that remain outstanding. He believes it was pressure generated by him during the campaign trail that got both sides to move on the Biden peace proposals that had been long on the table. His vision of rebuilding Gaza has not gone down well with Palestinians and needs amending.

He wants the EU to remove and amend measures that boost its exports and suppress imports from the US. He opposes some of their asymmetric tariffs, as with imported cars. He wants some of the AI and digital regulation and taxation relaxed as he sees this as a direct attack on the dominant US companies that work in this area. He may raise the issue of the valuation of the currency, and the protections against US foodstuffs. He looks at lists of countries running big trade surpluses on goods with the US and sees the EU top of the list.

He has imposed an extra overall 10% tariff on Chinese goods, which also runs a large surplus. He has, in the past, raised issues of currency valuation, subsidy of domestic production in China, and questions over intellectual property. The president will continue the bans and high tariffs on technology products imposed by Joe Biden, his predecessor. His action was more controlled than the election threat of 60% tariffs and China’s response has been measured.

Mr Trump also is pressing NATO members to make a much larger contribution to the common defence. Members need to remind themselves of Article 3 of the treaty telling them of the need to act in their own self defence as well as Article 5, the need for a common response to a threat against any member. The US thinks some countries have been relying on US defence spending and forces instead of making a sufficient contribution to their own defence.

The US/UK relationship

President Trump has said the UK is less of a problem than the EU, though there are some issues. The relationship has been damaged by past remarks of senior ministers and by the Labour Party sending people to campaign against him in the election.

Since then, the choice of Lord Peter Mandelson as British Ambassador to the US did not go down well, given his past links to China and the EU. The UK government’s wish to give the Chagos islands to Mauritius is also unpalatable in Washington. The large naval base at Diego Garcia would then be owned by a friend of China, which would make it more difficult from the US to operate freely from the remote island.

The US is unhappy with the UK’s digital services tax, largely paid by US companies. It also regrets the increase in corporation tax to 25% and the UK’s signature to the global agreement on minimum tax levels on international businesses. President Trump has renounced that approach. He will also not welcome the coming carbon border adjustment mechanism, an effective new tariff on a wide range of energy and energy intensive products. This is also a problem for the EU, which initiated it.

The impact of tariffs

Many commentators have pointed out should President Trump impose heavy tariffs on many large countries then the world will be worse off. Tariffs both lead to margin squeezes as the exporters struggle to absorb some of the costs, and to higher prices hitting consumers in the importing country.

Whilst there may be longer-term benefits for the US after it installs capacity to make import substitutes at home, the first-round effect is higher prices that squeeze real incomes and spending power at home, with fewer exports boosting world trade. President Trump’s treasury and trade teams will know this – and will be urging settlement of disputes wherever possible. The worry about some higher prices also means interest rates will stay higher for longer, depending on how serious the inflation impact is thought to be. To date, the main use of tariffs has been as pressure to secure some other aim.

What could the outcome be?

It has long been known in markets that President Trump would be happy with more tariffs. It has also been understood that, in the words of his book title, the president believes in The Art of the Deal. He is transactional and personal in his dealings with country leaders, seeking to get advantage for the US from his exchanges.

It seems likely there will be a continued series of compromises with Canada and Mexico. There could be further friction with China, providing continuity of a policy developed by bipartisan presidencies since 2016. It has not, so far, cut trade volumes significantly, though it has led to bans and restrictions in the technology area. President Trump clearly wants to find a way of a US company acquiring TikTok from China’s ByteDance.

There may be difficult exchanges with the EU resulting in more tariffs imposed by both sides, with some modest damage to trade volumes. The UK could escape but will need to compromise on some issues from the list of disagreements over Chagos, taxation, asymmetric tariffs and digital regulation. All of this is unlikely to do significant damage to the world economic outlook.

So far, this has not been enough to do serious damage to equity markets. Clearly, the countries and regions with large surpluses stand to lose more than the US from any prolonged dispute.