The past ten days have been a turbulent period for the global economy, with volatility shaking key markets and raising concerns about broader economic stability.
On April 2, US President Trump invoked the International Emergency Economic Powers Act to announce his “Liberation Day” tariff policy, which applied to imports from all countries except Canada and Mexico.
The policy featured a two-tier structure: first, a baseline 10% tariff on imports from all nations; second, country-specific “reciprocal” tariffs targeting what the US government considered unfair trade practices by around a hundred countries, with China being a primary target.
But by the end of the week, Trump yielded to mounting pressure from the bond markets and dramatically reversed course. On April, he suspended the additional tariffs on most countries, but in a stark move, he escalated duties on Chinese imports to a staggering 145%.
Trade tariffs are designed to protect domestic producers by making foreign goods more expensive. In the early 20th century, tariffs imposed at ports gave US manufacturers a competitive edge, helping to fuel a boom in American industry by shielding it from foreign competition.
Trump’s campaign echoed 1920s-style protectionism, adapted for the age of globalisation. With US companies offshoring to low-cost countries like China and India, his message was clear: bring jobs back home. Tariffs were his chosen tool to push corporations to reshore manufacturing to America.
Limits of tariffs
Globalisation’s trade logic undercuts the protectionist promise of restoring US jobs. Even with higher tariffs, companies abroad boost profits through cheap labour and efficiency – revealing the limits of tariffs in reshoring manufacturing.
Trump’s tariff policy faces fundamental challenges due to the deep integration of US corporations in global supply chains. Since the 1980s, these corporations have invested in low-cost countries and used tax havens to maximise profits. Tariffs are unlikely to disrupt this system, as they would raise costs without reshaping the complex global networks that multinational corporations have built.
This highlights the difficulty of pursuing protectionist policies in a world where economic interests are so interconnected.
Yet, it wasn’t these deeper structural economic realities that led Trump to pause the trade war.
What truly changed Trump’s mind were the reactions in the US Treasury bond market. Starting April 2, both US and global stock markets experienced significant volatility. In times of market turmoil, investors typically seek safety in US government securities. These Treasury bonds are widely regarded as the most secure assets. This flight to safety drives up demand for Treasury bonds and, in turn, strengthens the US dollar.
But this time, the expected pattern didn’t hold. Instead of rising, US Treasury bond prices fell –indicating that investors were seeking safer alternatives beyond US debt. As a result, bond yields climbed. In simple terms, mounting fears of inflation combined with slowing growth – raising the spectre of stagflation – prompted investors to demand higher returns for holding Treasury bonds.
Reflecting this shift in market sentiment, the interest rate on 10-year Treasury bonds jumped from 3.8% on April 4 to 4.12% by April 8. Similarly, the yields on the 20-year Treasury bonds rose to 5.05% and on the 30-year Treasury bond to 5%.
The key investors, such as hedge funds holding around $800 billion in Treasury bond derivatives, were facing margin calls and were unwinding their positions – a situation reminiscent of the 2008 and 2020 financial crises.
On April 8, the US government auctioned $58 billion in three-year Treasury bonds. However, with the major investors getting out of the market, forcing American banks to absorb up to 21% of the offering. The unwinding of these key players – hedge funds and foreign institutional investors –intensified the decline in bond prices and risked triggering a liquidity crisis in the days to come, potentially leading to a full-blown economic crisis.
This downward spiral in T-bond prices sent shockwaves through the U.S. administration, heightening concerns about the broader economic impact. As bond prices continued to fall, the administration was clearly rattled by the growing instability.
Losing confidence
The continued rise in T-bond yields signaled that investors were losing confidence in both US Treasury bonds and the US dollar. As T-bond prices fell, the value of the dollar also began to decline. This drop in T-bond prices (or the corresponding rise in yields) reflects a broader loss of faith in the US dollar, as investors shifted their capital to other currencies, such as the euro, and sought the relative safety of foreign bonds.
The turbulence in the T-bond market is widely seen as a signal of the weakening status of the U.S. dollar as the world’s primary reserve currency. As confidence in US Treasury bonds eroded, it further undermined the dollar’s dominance, sparking concerns about de-dollarisation.
The contradictions of Trump’s tariff policy were laid bare by the T-bond market: the cost of waging a trade war to bring jobs back to America is the erosion of the US dollar’s position as the world’s reserve currency. This scenario undermines the very foundation of Trump’s political slogan, “Make America Great Again” as it threatens the stability that underpins America’s global economic influence.
The uncertainty lingers, but last week’s turmoil exposed a harsh reality for the most powerful man on Earth – his authority is limited by the extent of the sentiments of the market.
Srinivas Raghavendra teaches economics at the Azim Premji University.
