Marlinspike's Economic Outlook 2025

How Tariffs, Spending Cuts, Tax Breaks, and Deregulation Could Reshape the U.S. Economy

The U.S. Economy is going through a period of dramatic change. We are the first to acknowledge that we do not have a crystal ball, but we believe the mid/long term economic goal for President Trump is to replace the income tax with tariffs—reducing the tax burden as much as possible. We believe it will be a 3-step process:

• Step 1: Cut spending to bring down the deficit - US deficit in 2024 was 6.2% of GDP.

• Step 2: Generate additional government revenues through tariffs.

• Step 3: Reduce income and corporate tax as much as possible.

We also did some back of the envelope calculations to determine tariff levels that could remain permanent if President’s reforms are successful and implications for the national GDP.

Spending Cuts

We are seeing DOGE in action. While the FY 2025 budget increases Federal spending by $10 Billion (negligible compared to overall $1.6 trillion in discretionary spending), we are expecting overall Federal spending to decrease. The recent budget agreement also allows for the movement of money around amongst the programs at the discretion of the President. We believe that this issue - the authority to redirect funding - was at the heart of the fight between the GOP and Democrats. President’s insistence on having that authority likely moved the Freedom Caucus of the GOP (group of GOP congressmen who want to significantly cut Federal spending) to support the bill. The ability to redirect funding, gives the President the authority to shrink programs by removing money and is a workaround of the impoundment rule (Congress says spend $x on y; President must spend $x on y).

Tariffs

Tariffs are supposed to accomplish two goals:

• Level the playing field with our trading partners (for example EU tariffs are 10% on US made cars; U.S. tariffs are 2.5% on EU made cars) and;

• Generate additional revenues.

While it is hard to predict which tariffs will stay and which will be rescinded, recent history teaches us that most will stay in place. What we are monitoring is the President’s stance towards the EU’s Value Added Tax (VAT). If the President Trump maintains his view that the EU’s VAT should be counted as an import duty – then most of the tariffs on EU goods will remain in place. All EU countries have a VAT, a sales tax, which usually accounts for 18-20% of their total tax revenues. It is difficult to see how the EU could exempt U.S. products from VAT and at the same time keep the VAT on domestic products. EU countries face a choice cut taxes by 18-20% or face tariffs.

Tax Cuts

The U.S. Commerce Secretary Howard Lutnick recently said: “I know what his goal is — no tax for anybody making under $150,000 a year. That's what I'm working for.” According to analysis by the Tax Foundation, this move would eliminate income taxes for 90% of the American people and would reduce income tax receipts by 25%. Currently, the U.S. tax code is highly progressive where 10% of the high earners pay 75% of all income taxes, and the top 1% of earners pay a total of 46% of all U.S. income taxes. Elimination of income tax for 90% of the workers earning under $169k would “cost” approximately $500 billion. In 2024, U.S. imports were $3.2 trillion; meaning an average tariff of 15% would cover elimination of income tax for the 90% of workforce. In addition, President Trump has signaled his willingness to reduce corporate taxes to 15% vs 21% today. Corporate tax receipts bring in approximately $500B in revenues. The reduction to 15% would reduce revenues by approximately 30% or $150 billion. An additional 4.5% tariff would cover the loss of such receipts. So, according to our back of the envelope math, we should expect average tariffs to be in the 15 – 20% range, perhaps lower if GDP growth generates additional tax revenues.

Impact on GDP and Domestic Production

Impacts are hard to model, but we will provide two examples: cars and crude oil.

The largest segment of U.S. imports are cars and car parts, together accounting for approximately 11% of the total imports or $352 billion. The main exporters are Mexico, Japan, Canada, and South Korea. For Mexican factories, 80-90% of their production is destined for the U.S. Most Mexico-based companies have factories in the US that could be expanded to service U.S. demand. According to the Center for Automotive Research, cost savings in Mexico are approximately $1,200 per vehicle, for a $25,000 car; 5% tariffs would eliminate Mexican cost advantages, 15-20% tariffs would put U.S. manufacturing base at a huge advantage. Building factories is never easy, but domesticating car production seems like a relatively straight forward onshoring problem to solve.

Crude petroleum is the second largest import, accounting for 6% or $170 billion. Canada and Mexico account for 69% of the total imports. Canadian crude is known as heavy crude and is of lower quality than crude found in Texas – U.S. refineries are equipped to handle Canadian crude. The more expensive Texas crude is exported to Europe. According to the C.D. Howe Institute, Canadian barrels are $60, while Texas is trading at $74/barrel (as of March 14). The need to ramp up U.S. oil production, higher market value of U.S. crude, and significant U.S. export revenues generated by existing producers introduces many complexities into onshoring. It would be hard to predict where markets would find new equilibrium.

Reasons for U.S. trade deficits are numerous; we have an advanced economy that manufactures technologically complex goods that are difficult for others to make. At the same time, most of the world has very little demand for our high end manufactured products. Expecting a trade surplus with Mexico or Africa is not very realistic, or if it is, it would mean that imports from those countries have mostly dried up.

The Impact of Regulations

However, there are significant parts of the manufacturing value chain that could be onshored. One of the main reasons for a cost differential between the U.S. and the rest of the world is that the current economic theory failed to consider is the numerous regulations. The National Association of Manufacturers estimated the total cost of federal regulation at 12% of GDP – manufacturing is burdened with roughly $350 billion of regulations. The environmental regulations alone account for $206 billion—more than half of that burden. Furthermore, regulations now account for 40% of the payroll costs for manufacturers vs 15% for service companies. Recent regulatory reviews and changes initiated by the EPA will be favorable for U.S. manufacturing. We are expecting the Administration to continue to deregulate the economy.

Combining tariffs and de-regulation should encourage growth of manufacturing in the U.S. Just halving the burden of environmental regulations together with halving the car imports would directly add $270 billion to the U.S. economy or approximately 1% of the GDP. Follow-on indirect multiplier effect implications could be much larger, but could conservatively add another 1% to the GDP. Additional 2% of GDP should generate enough taxes to cover the reduction of corporate tax rate.

Conclusion

We are in transitory times – transitions are messy. We are firm believers in the wise word of Bill Clinton: “No one ever made money being against America.” Marlinspike is long America and doing our part to rearm and rebuild this great nation!