The Tariff Mirage: Fiscal Illusion, Monetary Decline

When Tariffs Become Taxes and Threaten the Dollar’s Throne

Two new papers released this month by the National Bureau of Economic Research (NBER) shed light on the economic architecture of Trump’s second-term trade revolution. Kimberly Clausing and Maurice Obstfeld’s “Tariffs as Fiscal Policy” and Tarek Hassan, Thomas Mertens, Jingye Wang, and Tony Zhang’s “Trade War and the Dollar Anchor” together outline not merely a new phase of protectionism, but a fundamental reorientation of America’s fiscal and monetary position in the world. One paper examines tariffs as an explicit tax instrument; the other models how such a policy can destabilize the international monetary order anchored by the U.S. dollar. Read together, they tell a coherent and cautionary story: A tariff-financed state is a poorer, less stable, and less privileged one.

Tariffs as Fiscal Policy: A Regressive, Inefficient Tax Revolution

Clausing and Obstfeld begin from a simple observation: With the 2025 surge in tariffs — an average effective rate near 17.5%, the highest since the 1930s — the Trump administration has considered replacing income taxation with border taxation. The result, they argue, is a historic “fiscal switch”: the United States turning toward tariffs as a primary source of revenue.

A tariff Laffer curve

Using standard trade models (CES and translog specifications), the authors estimate the revenue-maximizing tariff around 50–55%, yielding roughly $450–550 billion per year before dynamic offsets. Even then, total tariff revenue would amount to less than one-fifth of federal income-tax receipts. No feasible tariff rate could replace the income tax; the arithmetic simply doesn’t work.

Worse, the efficiency losses rise far faster than the revenues. At the current effective rate (~20%), the deadweight loss is already about one-third of the revenue raised, and at revenue-maximizing rates, inefficiency would nearly equal the tax take. The authors quantify the burden at roughly $3,300 per U.S. household per year in combined tariff payments and welfare losses.

A deeply regressive and bureaucratic tax

Economically, a tariff is a selective consumption tax. Because lower-income households consume a greater share of their income, and because many tariffed goods are basic consumer items (apparel, footwear, household goods), the incidence is sharply regressive. The poorest households pay proportionally higher import taxes.

Clausing and Obstfeld also detail the staggering administrative complexity of the new tariff regime: rates varying by country, product, and origin; proliferating exemptions and “de minimis” loopholes; and a flood of lobbying for special treatment. The system, they argue, is “rife with corruption opportunities,” rewarding politically connected firms with exemptions while punishing those out of favor. By August 2025, the administration had implemented 87 major trade-policy revisions in just eight months.

Macroeconomic contraction, not renaissance

Finally, they show that broad tariffs act as a negative supply shock. By raising the cost of imported inputs (more than half of U.S. imports), they reduce manufacturing competitiveness, raise consumer prices, and depress investment. Retaliation abroad further harms U.S. exporters. Far from spurring industrial revival, the policy delivers a stagflationary mix of higher prices and lower output. Clausing and Obstfeld summarize bluntly: “At summer 2025 levels, tariffs destroy about one-third of the value they raise.”

How Protectionism Unmoors the Global System

If Clausing and Obstfeld document the micro- and fiscal pathology of tariffs, Hassan, Mertens, Wang, and Zhang explore their macro-financial consequences. Their paper develops a general-equilibrium model in which the dollar’s “safe-haven” status, and hence America’s ability to borrow cheaply, arises endogenously from open trade and economic size. In this framework, the dollar’s safety premium and the structure of the global monetary system itself depend on free trade.

In normal times, the U.S. dollar appreciates in global downturns. That safe-haven behavior allows U.S. Treasury yields to remain low: Investors accept smaller returns because the dollar gains value when risk rises. This “exorbitant privilege” lowers borrowing costs for both the U.S. government and American firms, raises equity valuations, and attracts global capital inflows. Small countries, recognizing this safety, peg or stabilize their exchange rates to the dollar, reinforcing its centrality.

How tariffs destroy safety

In Hassan et al.’s model, a trade war severs this link. When the U.S. isolates itself through high tariffs, its domestic shocks no longer spill over strongly to global goods markets. The dollar ceases to appreciate in times of global stress and instead becomes just another risky currency. As the dollar’s covariance with the world’s “marginal utility of consumption” falls, its safe-haven premium erodes. The outcome is higher U.S. interest rates, lower capital inflows, and declining valuations for U.S. firms.

Quantitatively, the model, calibrated to 2025 data, predicts that tariffs averaging 17% (with partial retaliation) raise U.S. interest rates by roughly 40–60 basis points and reduce U.S. equity values by 2–3%. At tariffs above 26%, the model forecasts a phase shift: Small economies abandon their dollar pegs and re-peg to the euro, ushering in a euro-centric monetary order. In that world, the euro inherits the safety premium; U.S. welfare and global welfare both decline.

As the figure below demonstrates, the U.S. dollar’s share of global foreign exchange reserves has declined from 71% at the start of the 21st century to 56% in 2025. Persistent trade wars and tariff-driven isolation could accelerate this decline.

The authors go further: If persistent tariffs lead to chronic current-account deficits and rising borrowing costs, political pressure for capital controls may follow. A tariff-driven retreat from trade could thus spiral into financial deglobalization, eroding the very foundation of the dollar’s dominance. In their words, “Dollar supremacy is not immutable. Open trade is a precondition for the continued centrality of the dollar in global finance.”

The Converging Warnings

Taken together, these two papers form an integrated macro-diagnosis of Trump’s 2025 experiment:

1- Tariffs as Taxes: Broad import duties are effectively a regressive consumption tax, incapable of replacing income-tax revenue and economically destructive.

2- Tariffs as Shocks: Far from boosting manufacturing, tariffs impose a supply-side contraction that raises prices and lowers output.

3- Tariffs as Global Risk: By severing trade linkages, tariffs also sever the risk-sharing mechanism that underpins the dollar’s role as the world’s safe asset.

4- Tariffs as Monetary Suicide: Protectionism risks endangering not just U.S. prosperity but the architecture of the global monetary system.

Clausing and Obstfeld warn that tariffs are “a particularly inefficient source of tax revenues.” Hassan and co-authors show that they are also a particularly dangerous one: Tariffs imperil the U.S. currency’s privilege and the cheap financing that sustains America’s fiscal state.

The Broader Lesson

For decades, the United States has financed its deficits and global power by issuing the safest asset in the world. That safety is not ordained; it is earned through openness, predictability, and macroeconomic stability. A policy that weaponizes tariffs as fiscal tools and destabilizes global trade is not merely economically misguided; it is strategically self-defeating.

Clausing and Obstfeld’s domestic critique and Hassan et al.’s global model converge on the same moral: Economic nationalism is fiscal illusion. Tariffs look like a tax on foreigners but function as a tax on Americans, on their consumption, their productivity, and their financial privilege. The more America walls itself off, the less valuable its currency becomes, and the higher the interest rate it must pay to sustain its debts.