Why Tariff Uncertainty May Hurt More Than Tariffs

UC San Diego’s Kyle Handley on volatility, global credibility and the policy choices ahead

By Inga Kiderra and Douglas Girardot | UC San Diego Today

Kyle Handley has focused his research on trade uncertainty for almost 20 years. During the early years of his academic career, the biggest problem was that there wasn’t much uncertainty to study.

For decades following World War II, the global trading system was so stable that Handley and his colleagues had to invent hypothetical scenarios to model dramatic increases in uncertainty for the world economy.

Then came 2016.

“All of a sudden,” Handley said, “we were living in these counterfactuals that we previously just did as thought experiments.”

The U.K. voted to leave the European Union, and a few months later Donald Trump was elected president of the United States. A series of other shocks followed, including pandemic disruptions and rising U.S.-China competition — eroding the predictability that once defined global trade.

Most recently, amid the sweeping tariffs that have characterized President Trump’s second term, the U.S. Supreme Court ruled 6-3 to limit the president’s use of emergency tariff authority.

Handley — a professor of economics in the University of California San Diego School of Global Policy and Strategy and director of the school’s Center for Commerce and Diplomacy, who is also an adjunct scholar at the Cato Institute — says the effects of the situation extend beyond any single ruling.

We spoke with him about what uncertainty means for businesses, how volatility affects global credibility and what policy choices lie ahead.

You’ve argued that uncertainty can be more damaging than the tariff itself. How does policy unpredictability change business behavior?

Essentially, there are all these businesses getting hit by new tariffs, but the tariffs go up and down — sometimes within a day — and they can’t really plan ahead. The best response for a lot of businesses right now is to do nothing, because there’s so much uncertainty about what comes next.

If businesses just knew, “OK, the U.S. is going to have a 10% or 15% across-the-board tariff and it’s reasonably permanent,” they could at least plan for that. They’d know what the business situation looked like over the next few years.

But since they’re not able to look ahead with that confidence, they’re not investing for the future; they’re not hiring new workers they’ll need or replacing workers as they leave. So all of that becomes a slowdown or a freezing of economic activity, and that can be worse than the tariffs themselves.

Firms react to volatility — what’s the probability the tariff changes next week? And they also react to risk — is it going to be 25% or 50%? The bigger the threats, the more caution they induce. The size of the threats matters, and the frequency with which policy changes matters, and together they interact to reduce activity.

Is unpredictability now a structural feature of U.S. trade policy?

With Trump in office, unpredictability is a feature, not a bug. He’s using this carousel of threats toward different products and countries as a negotiating tool.

A lot of my research shows that if you’re going to play the negotiation game and threaten much higher tariffs — even if you don’t actually levy them — that’s what slows down business activity and investment. There’s an economic cost to that.

Brinksmanship is just bad for business. It may be an effective negotiating tool in terms of getting concessions, but it creates a trade policy environment that is worse for business.

— Kyle Handley

Brinksmanship is just bad for business. It may be an effective negotiating tool in terms of getting concessions, but it creates a trade policy environment that is worse for business. It can look like a geopolitical win, but it can end up being a loss for U.S. consumers and U.S. businesses, with medium- to long-term effects.

If policymakers were designing trade policy today, what economic principles should guide them to avoid cycles of disruption and reversal?

A lot of economists like me would prefer lower tariffs. But even if we’re going to have higher tariffs, one core principle would be that the tariff structure should be much more uniform than it is right now.

Having multiple layers of tariffs that vary substantially across products and countries is very difficult for U.S. businesses to navigate. If the administration wants the average tariff to be 10% or 15%, they should go to Congress and pass an average tariff at that level and put it on the books. But it shouldn’t vary a lot across products, and it definitely shouldn’t vary a lot across countries.

One longstanding principle is Most Favored Nation: The best deal you give to your most favored trade partner, you extend to everyone else. If you’re willing to give it to the U.K., you give it to everybody. That dramatically simplifies the tariff schedule.

What is the biggest economic misconception about tariffs that keeps resurfacing?

The biggest misconception is the repeated claim that foreigners are paying the tariffs.

There are two ways that’s incorrect. First, as a statutory matter, tariffs are paid by the importer of record in the U.S. — that’s who gets the bill. It doesn’t go to a foreign government or firm.

Second, the empirical evidence doesn’t support the idea that foreign businesses will lower their prices to offset the tariff. Most of these tariffs are passed along to U.S. firms, and then those firms pass the costs along in their supply chains or to final customers — people buying a new car, a refrigerator or a toaster. Things become a little more expensive because of tariffs.

Five years from now, what will matter more about this episode: the legal boundary it set or the signal it sent to global investors?

The signal that’s been sent to the rest of the world is going to matter a lot more in five years than this particular court case.

The court’s decision just says the president doesn’t have a blank check to change tariff policy. But over the past year, the administration has really dismantled the rules-based global trading system that the United States spent the past 75 years building.

The biggest misconception is the repeated claim that foreigners are paying the tariffs.

— Kyle Handley

For the U.S., at least, participation in that system is over. We can’t just turn that back on. It took 75 years to build up those commitments and that predictability. Even in a few years, we can’t simply go back to the policy stability we had before. That’s what will have lasting effects.

If federal trade policy remains volatile, what can states like California do to reduce the impact?

The federal government may continue with unpredictability and, despite the Supreme Court decision, raise tariffs by other measures, which is what they’re already promising to do.

If trade slows down, that affects ports and the entire logistics ecosystem — in Long Beach, Los Angeles, San Francisco and here in San Diego. The Otay Mesa port of entry is the busiest land border in California. Reducing friction and making it easier to run trade through California can help cushion the blow.

There are a number of things that the State of California can do to reduce costs and reduce frictions in doing business. That’s going to be good for California’s consumers and businesses, regardless of what’s happening in Washington.

Over the past year, the administration has really dismantled the rules-based global trading system that the United States spent the past 75 years building…. We can’t just turn that back on.

— Kyle Handley