Trump's Fiscal Policy Is Built on Sand
What is Donald Trump aiming to achieve with his tariff policy? There are many theories. He himself has claimed that the revenues would help ease the burden on the federal budget and make income tax cuts possible. But can that really work? To answer this, one must look at the underlying figures. In 2025, the gross domestic product (GDP) of the United States stands at around USD 30 trillion, with imports totaling USD 3.4 trillion. Federal tax revenues amount to USD 5.2 trillion – about half of which comes from income tax.
Trump recently asserted that his tariffs would bring in roughly USD 2 billion per day. That would be true if the US levied import duties of around 20% on all goods – and if nothing else changed.
Side Effects of Tariffs – Shrinking Profits and Retaliation from Abroad
But tariffs come with side effects. First, they reduce corporate profits and household incomes because intermediate goods become more expensive and economic growth slows. As a result, revenues from income and corporate taxes decline.
Second, other countries respond with countermeasures, amplifying the negative impact on the US economy. One possible counterargument is that some firms may move production back to the US to avoid tariffs – but that comes at considerable cost. Given the current labor shortage and uncertainty surrounding future trade policy, it's unclear whether this will happen at any significant scale.
A recent study by the Peterson Institute for International Economics (PIIE) in Washington examines the anticipated effects of US tariffs. It takes into account foreign retaliation as well as impacts on economic growth and tax revenues.
(Suggested illustration: Visualization of the PIIE table showing 10% and 20% tariff scenarios.)
According to the study, a 10% tariff would generate around USD 300 billion in customs revenue. However, this would be partially offset by losses in other tax revenues. On balance, federal tax income would rise by about USD 160 billion per year – though at the cost of slower growth.
For every additional dollar of tax revenue, US GDP would fall by USD 0.46. Remarkably, higher tariffs would not lead to higher revenues, but to lower ones.
Additional Revenue Falls Short of Funding Major Tax Cuts
At a 20% tariff rate, the net revenue gain would shrink to just USD 79 billion – and for every additional dollar raised, GDP would decline by as much as USD 1.80. Clearly, such gains are nowhere near sufficient to fund substantial income tax cuts or to significantly reduce the current USD 1.9 trillion annual federal budget deficit.
This analysis doesn’t even factor in the effect of rising interest rates. Yields on US government bonds have already increased in response to the tariff rhetoric. If the increase amounts to 0.5 percentage points, that would mean an additional interest burden of around USD 150 billion per year, given current debt levels.
All of this makes one thing clear: the idea of fixing America’s public finances through tariffs is built on sand.
Clemens Fuest
Professor of Economics and Public Finance at LMU Munich
President of the ifo Institute
A similar version was published as “Finanzpolitische Strategie von Trump ist auf Sand gebaut”, Handelsblatt, May 21, 2025.
You Might Also be Interested in
Contact
