Donald Trump’s phony, blowhard’s trade war just got real.

The steel and aluminium tariffs that the Trump administration imposed at the beginning of June were important mainly for their symbolic value, not for their real economic impact. While the tariffs signified that the US was no longer playing by the rules of the world trading system, they targeted just $45bn of imports, less than 0.25% of GDP in an $18.5tn US economy.

On 6 July, however, an additional 25% tariff on $34bn of Chinese exports went into effect, and China retaliated against an equivalent volume of US exports. An angry Trump has ordered the US trade representative to draw up a list of additional Chinese goods, worth more than $400bn, that could be taxed, and China again vowed to retaliate. Trump has also threatened to impose tariffs on $350bn worth of imported motor vehicles and parts. If he does, the EU and others could retaliate against an equal amount of US exports.

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We are now talking about real money: nearly $1tn of US imports and an equivalent amount of US export sales and foreign investments.

The mystery is why the economic and financial fallout from this escalation has been so limited. The US economy is humming along. The purchasing managers’ index was up again in June. Wall Street has wobbled, but there has been nothing resembling its sharp negative reaction to the Smoot-Hawley Tariff of 1930. Emerging markets have suffered capital outflows and currency weakness, but this is more a consequence of Federal Reserve interest rate hikes than of any announcements emanating from the White House.

There are three possible explanations. First, purchasing managers and stock market investors may be betting that sanity will yet prevail. They may be hoping that Trump’s threats are just bluster, or that the objections of the US Chamber of Commerce and other business groups will ultimately register.

But this ignores the fact that Trump’s tariff talk is wildly popular with his base. One recent poll found that 66% of Republican voters backed Trump’s threatened tariffs against China. Trump ran in 2016 on a protectionist vow that he would no longer allow other countries to “take advantage” of the US. His voters expect him to deliver on that promise, and he knows it.

Second, the markets may be betting that Trump is right when he says that trade wars are easy to win. Other countries that depend on exports to the US may conclude that it is in their interest to back down. In early July, the European commission was reportedly contemplating a tariff-cutting deal to address Trump’s complaint that the EU taxes American cars at four times the rate the US taxes European vehicles.

But China shows no willingness to buckle under US pressure. Canada, that politest of countries, is similarly unwilling to be bullied; it has retaliated with 25% tariffs on $12bn of US goods. And the EU would contemplate concessions only if the US offers some in return – such as eliminating its prohibitive tariffs on imported light pick-up trucks and vans – and only if other exporters like Japan and South Korea go along.

Third, it could be that the macroeconomic effects of even the full panoply of US tariffs, together with foreign retaliation, are relatively small. Leading models of the US economy, in particular, imply that a 10% increase in the cost of imported goods will lead to a one-time increase in inflation of at most 0.7%.

This is simply the law of iterated fractions at work. Imports are 15% of US GDP. Multiply 0.15 by 0.10 (the hypothesised tariff rate), and you get 1.5%. Allow for some substitution away from more expensive imported goods, and the number drops below 1%. And if growth slows because of the higher cost of imported intermediate inputs, the Fed can offset this by raising interest rates more slowly. Foreign central banks can do likewise.

Still, one worries, because the standard economic models are notoriously bad at capturing the macroeconomic effects of uncertainty, which trade wars create with a vengeance. Investment plans are made in advance, so it may take, say, a year for the impact of that uncertainty to materialise – as was the case in the UK following the 2016 Brexit referendum. Taxing intermediate inputs will hurt efficiency, while shifting resources away from dynamic hi-tech sectors in favour of old-line manufacturing will depress productivity growth, with further negative implications for investment. And these are outcomes that the Fed cannot easily offset.

So, for those who observe that the economic and financial fallout from Trump’s trade war has been surprisingly small, the best response is: just wait.

• Barry Eichengreen is professor of economics at the University of California, Berkeley, and a former senior policy adviser at the International Monetary Fund.

© Project Syndicate