A model of the Euro area, China, and the United States: Trade links and trade wars

What are the welfare implications of trade wars for the warring nations as well as trade partners of the warring nations?

In this paper, researchers of Czech National Bank develop a multi-country model with United States, euro area, China and the “rest of the world” and study several scenarios where the US imposes tariffs on either China only, or both China and the euro area, with and without retaliations from those countries. They find that:

…the US economy suffers under each scenario. Its main trading partners incur losses too. The magnitude of the losses depends substantially on how deeply the countries are connected through trade. A country imposing a tariff experiences a rise in prices of both consumption goods and manufacturing imports. The rise in inflation, combined with tougher monetary policy, suppresses output growth and investment. A country that faces a tariff from a trade partner suffers from a decrease in exports.

Moreover, if a country starts a trade war (i.e., in the event of retaliation from the country facing tariff) with its major trade partners, the welfare loss to the country is heightened.