Do Tariffs Reduce Trade Deficits?

A tariff can reduce a bilateral trade deficit mechanically by lowering imports from a particular partner. It does not thereby reduce the aggregate trade deficit, which reflects the gap between national saving and investment. Imports may instead shift toward other suppliers, moving the bilateral deficit across partners while leaving the aggregate balance largely unchanged.

The Liberation Day tariffs paper provides a concrete example. The April 2025 schedule set tariff rates in proportion to bilateral trade deficits, treating each bilateral imbalance as evidence of unfair trade. Optimal tariff theory does not imply such a schedule. The welfare-maximizing U.S. tariff is roughly 19 percent and uniform across partners; it depends on aggregate market power rather than the identity of the country running a surplus with the United States.

A smaller bilateral deficit is not itself a measure of welfare. National welfare depends on the terms of trade, the efficiency of domestic production, and government revenue net of the associated distortions. The revenue paper finds that trade taxes can replace at most 16 percent of revenue, and retaliation halves that amount. A tariff may therefore reduce a bilateral deficit while lowering welfare through retaliation and distortions to production networks.

The relevant question is whether a tariff improves the allocation of resources after accounting for terms-of-trade effects, retaliation, input-output linkages, and revenue feedbacks, not whether it moves a bilateral trade balance.