What are tariffs and how do they affect you?

After the United States election, one of the 101 questions on your mind might be “What are tariffs?” Here’s what you need to know.

When you hear the word “tariff,” what comes to mind? The Middle Ages, perhaps? If so,  you must have paid attention in history class. The term originates from the Medieval Latin word “tariffe,” which means ‘set price.’

While the political climate is anything but stable nowadays, the meaning behind “tariff” has remained mostly the same. Today, tariffs are a tax, or set price, on imports or foreign goods brought into a country.

In the case of the United States, recently elected Donald Trump signed an executive order placing a 25% tariff on imports from Canada and Mexico, and a 10% tariff on imports from China.

So, what does this mean for those of us living next door? Sometimes having an unpredictable neighbour is fun, but not when they start littering in your yard. Trump’s tariffs will have a very real impact on Canadians and our economy.

How tariffs work

Tariffs are intended to relieve pressure from foreign competition and minimize the trade deficit, which refers to when a country imports more than it exports. Tariffs promote domestic industries by making foreign products less appealing.

In the case of the United States, American companies will be responsible for shouldering the cost of tariffs, meaning the products they import will be more expensive. For example, if Company A imports $2,500,000 worth of avocados from Canada, the total cost under Trump’s 25% tariff would be $3,125,000.

This incentivizes Company A to source or produce local avocados instead. In the same way, tariffs make domestic products more attractive to consumers.

If imported goods are more expensive, consumers are more likely to buy the cheaper domestic alternative or equivalent. If you had the choice between an avocado that costs $5.99 versus $7.50, wouldn’t you buy the cheaper avocado?

Tariffs sound great in theory. They encourage local production and can stimulate the economy, but are much more complicated in practice.

Instead of strengthening or pursuing domestic production, many American companies opt to indirectly offset the cost of tariffs by increasing the price of their products. So that domestic $5.99 avocado you need for guacamole might cost $7.50 anyway.

Ditching domestic production

The last time Trump was in office, the United States trade deficit grew from $481 billion in 2016 to $679 billion in 2020.

However, Trump did succeed in reducing the trade deficit between the United States and China from $419 billion in 2018 to $311 billion in 2020 by placing tariffs on more than $350 billion worth of Chinese imported goods.

While Trump may have succeeded in reducing the trade deficit between the United States and China, it resulted in domestic companies turning to other foreign suppliers.

The result was increased trade deficits with countries like Russia, Thailand, and Taiwan, to name just a few. Why do so many American companies rely on foreign suppliers instead of pursuing production in the United States?

The cheaper, the better

For starters, buying the equipment and employing the workforce needed to support domestic production is easier said than done. Many American companies already have well-established production operations in foreign lands.

According to Citizens for Tax Justice and the U.S. PIRG Education Fund, there are over 350 American companies holding a reported collective profit of $2.1 trillion in foreign lands. These companies operate a total of over 7,600 subsidiaries in these foreign countries.

Needless to say, many American companies have invested huge amounts of time and money into building their operations overseas. Why? One of the biggest reasons is that offshore production is cheaper and more profitable.

While the United States faces an ongoing labour shortage, offshore American operations can take advantage of local labourers willing to work for cheap.

Another massive advantage to offshore production is tax dodging. Companies can dodge taxes by moving their profits to countries with nominal or zero corporate taxes, referred to as tax havens.

For example, Apple had accumulated $111 billion in cash, almost all of which was held by its Irish subsidiaries in 2013. It just so happens that Ireland is a tax haven, allowing the multi-trillion dollar company to pay peanuts in taxes while its profits grew.

Tax dodging is nothing new. It costs governments around the world hundreds of billions every year in lost tax revenue, yet its perfectly legal. Shady, but legal.

How Trump’s tariffs affect Canada

By now, you probably understand why Trump’s 25% tariff on Canadian imports is a kick right to the avocados. Canada is one of the United States' biggest trade partners alongside China and Mexico.

In the wise words of everyone’s favourite Ontario Premier Doug Ford, Trump’s tariffs are "like a family member stabbing you right in the heart." The pain is especially real for Alberta, a province whose economy relies heavily on trade with the United States.

In 2022, almost 90% of Alberta’s exports went to the United States. The province’s most valued exports were crude oil and natural gas, two of Alberta’s largest energy exports. Canadian crude oil makes up about half of the United States’ imported supply. Crude oil imports from Mexico are the second highest.

For Americans, Trump’s tariffs mean higher costs for gas, cars, tequila, avocados, and more. For Canadians, the tariffs are resulting in orders for Canadian products being cancelled or reduced, resulting in layoffs and closures. Layoffs will impact workers across many industries, especially Alberta’s energy sector.

The Canadian dollar has already taken a hit. When our dollar is weaker, imports are more expensive, increasing the cost of many products.

Summary

Knowing how tariffs work and how they can impact the Canadian economy is important in navigating the current hellsca...ahem, landscape. Upping your financial knowledge can help you stay one step ahead.