Reform not retaliation the best response to US tariffs

9 July 2025 | Alex Robson

This article appeared in the Australian Financial Review on 7 July 2025.

With the temporary pause on proposed US tariff hikes set to expire on Wednesday, the world’s economies are bracing themselves for whatever comes next.

Rapid and wide-ranging changes to US trade policy have already seen economic uncertainty reach its highest levels since COVID-19.

In the face of these evolving risks, we should be clear-eyed about the likely direct impacts of these tariffs on Australia.

The modelling the Productivity Commission has released today indicates that in the long run, the direct overall impacts of US tariffs on our economy are likely to be small and positive, despite their negative impacts on the global economy.

For example, US ‘Liberation Day’ tariffs and tariffs on aluminium, steel and automobiles and parts could lead to an increase in Australian real GDP of 0.37%.

The analysis shows that cheaper imports from the rest of the world and an outflow of productive capital from the US and high-tariffed economies would stimulate Australian production.

These direct gains to Australia would likely be even higher in a scenario where economies affected by US tariffs retaliate.

While retaliation lowers global production and international trade even further, the harm is concentrated among countries imposing and receiving those higher tariffs.

But the direct impacts of the tariffs on Australia are only part of the story.

Trade policy uncertainty will have a chilling effect on investment decisions, both in Australia and globally. This will particularly affect irreversible investment decisions, including decisions to enter new export markets or adopt new imported inputs and production technologies.

And global retaliation carries the risk of a further rise in protectionism that would create bad outcomes for Australia.

So how should Australia manage these risks? We suggest a two-pronged approach.

First, we should seek to limit global uncertainty by continuing to embrace and advocate for free trade. By continuing to do this with like-minded international partners, we can reduce the risks that retaliation spirals into a broader trade war that leads to worse outcomes for Australia.

And continuing to support multilateral institutions that promote a stable trading environment could help to reverse the consequences of uncertainty.

Second, and related to this, Australia should not retaliate. Indeed, imposing retaliatory tariffs leads to worse economic outcomes for Australia – for example, if the US imposed a 10% tariff on all imports and Australia retaliated alongside other countries by imposing a 10% tariff on imports from the US, Australian GDP would be 0.14 percentage points lower than if Australia chose not to retaliate.

In fact, our modelling suggests our best response would be to unilaterally remove Australia’s remaining tariffs.

For example, in a scenario where Australia eliminates its remaining tariffs in response to a 10% import tariff levied by the US, while the rest of the world retaliated, Australian GDP could increase by 0.35%, or 0.06 percentage points more than if Australia took no action.

Realistically, fiscal and political constraints may prevent the immediate removal of all tariffs.  Trade liberalisation is usually far more incremental.

An obvious place to start would be to look at so-called ‘nuisance tariffs’ that generate little revenue but impose high costs on the businesses seeking to avoid them.

The Australian Government has already made the largest unilateral tariff reform in two decades, abolishing 457 nuisance tariffs from 2024–25 onwards. This included eliminating tariffs on things like pyjamas, dodgem cars, bamboo chopsticks and toothbrushes.

This is a good start, but 2,640 of these ‘nuisance tariffs’ remain. In 2023-24 they raised $2bn in revenue but imposed compliance costs of up to $4bn.

Looking at the ratio of indicative compliance costs to tariff revenue, we have identified a further 315 ‘urgent priority’ nuisance tariffs for potential removal. These tariffs raised only $13 million in revenue but imposed compliance costs of more than $140 million.

A good example is the 5% tariff on small, fixed air conditioners, which collected just $36,000 in tariff revenue on imports of $100 million, but imposed estimated compliance costs of more than five times the revenue collected.

We can’t control the trade policies of other countries, but we can ensure our own approach to trade helps Australia prosper. In a world awash with uncertainty, that much is certain.