No, Tariffs Are Not Similar to Consumption Taxes Like a VAT

Kyle Handley

Some tariff supporters have tried to rebrand tariffs as nothing more than a consumption tax, arguing they’re just like the value-added taxes (VATs) that many other countries use. See, for example, here and here. The implication buried in these claims is that because other countries use VATs, they should be offset by US tariffs—and that any such tariffs would be a common way to raise government revenue just like VATs are. 

This argument might sound good at first blush, but it’s wrong. Tariffs differ from a consumption tax, VAT, or other similar tax in both form and effect.

A VAT is a broad-based consumption tax applied at each stage of production and consisting of three essential components. First, it is border-adjusted. Exported goods are exempt, often through a border rebate, and imported goods face the same VAT rate as domestic goods, making it a tax on consumption, not on trade. Second, it’s transparent. The full VAT tax amount generally appears on receipts for goods and services. Third, the tax applies only to value added by the producer at the stage of production and not to the total value of the good. The tax still causes distortions, but the value-added design minimizes incentives for creative accounting and avoidance schemes.

Tariffs have none of these features.

The economic effects of tariffs and consumption taxes also differ. The direct effect of a consumption tax is to reduce how much you buy. This is true for a VAT or a 6 percent sales tax. That missing consumption is foregone economic activity not fully compensated by tax revenue. Economists refer to this as a deadweight loss. The consumption taxes we pay regularly don’t discriminate by the origin of the good. If you are buying a Tesla Model Y, you will pay the same sales tax rate whether final assembly was in California or Texas.[i]

Tariffs, on the other hand, are taxes only on imports. They raise the price of foreign goods relative to domestic goods, which means they distort consumers’ choices. Tariffs are also not very transparent, as the final consumer is rarely the importer of record. But at least some, if not all, of the tariffs paid on aircraft, steel, and avocados are likely to be passed along and recouped on the final bill of sale.

Let’s consider avocados produced in Mexico (about 80 percent of US avocado imports) or California (about 90 percent of US domestic production). Initially, suppose the price of a Haas avocado is $1, and then we put tariffs of 25 percent on Mexican goods. Imported avocado prices rise, possibly up to $1.25. This will shift some US consumption over to Californian avocados, where farmers will be happy to produce more at the new, higher price.

By raising the price of avocados, the tariff has an effect like a consumption tax because people buy less. The losses include foregone avocado consumption in terms of less avocado toast or substituting more vegetables and other fillers like green peas into our guacamole recipes (yuck!).

But this is where the consumption tax comparison is not enough. Profit-maximizing California avocado farmers might be induced to increase water usage and fertilizers to boost yields. They will devote land to avocado farming that could be used for other crops (e.g., oranges, lemons, olives, etc.) or purposes (e.g., housing). Shifting toward more domestic avocado output with higher production costs at the expense of other productive economic activities reduces overall economic efficiency.

More generally, this reallocation away from imports and toward domestic producers is thus a costly production distortion. Some will argue that favoring domestic over foreign goods through tariffs is a good thing. But more domestic production, jobs, or higher wages in the sectors with tariff protection cannot be conjured from thin air. To get more domestic avocados, steel, or autos, we must reallocate workers, capital, and land away from other uses.

The production distortions from tariffs can be large and are often in plain sight. An unfortunate recent example is Delta Air Lines’ decision to strip off the US-made engines from Airbus passenger jets made in Europe, import the engines separately, and then install them on its US Airbus fleet, all to avoid tariffs. In another famous example, Ford installed extra rows of seats on its foreign-made Transit cargo vans. When the vehicles arrived stateside, Ford paid a lower tariff rate by classifying them as passenger vans. Ford then ripped out and recycled the seats.

It’s likely thousands of costly and inefficient decisions are being made by US firms up and down their supply chain to adapt to the changing tariff landscape over the first half of 2025. Moreover, none of these costly contortions would be necessary under a VAT, which taxes imports and domestic products equally.

Could a tariff ever be just like a consumption tax that is immune to the many distortions that typically accompany tariffs? I can imagine a special case, but it unravels when examined closely. Suppose there is a unique product solely sourced from one country. Then, an import tariff would increase the cost to buy that good, there would be no domestic production to distort, and it would have an effect similar to a consumption tax.

Not only are examples like this rare (e.g., Himalayan sea salt), but many distortions could arise anyway. As soon as you tariff Himalayan sea salt, for example, consumption is distorted toward other similar but less desirable salt varieties. Smuggling operations and transshipment schemes might pop up. Even a seemingly clever tariff policy trying to exploit this idea can easily backfire. The US tried to target specific Japanese motorcycle models by engine size in the 1980s. But that means companies innovate and specialize around the arbitrary characteristics. And thus, we are right back where we started with a host of inefficiencies and distortions, even though we started out seeking to minimize these losses.

So why the misleading comparison? The VAT line gives cover to protectionism under the guise of “fairness.” If you can convince the public that other countries are taxing us and we’re not taxing them, then tariffs look like a justifiable policy correction. But the economics are clear: VAT is not a tariff, and tariffs are not a consumption tax.

As the examples above show, US and foreign businesses will see right through the wordplay and respond accordingly. If you’re designing trade policy based on a false analogy, don’t be surprised when the results are exactly what economists predicted: higher costs, less trade, and a reduction in global competitiveness.