11 minReturn of mercantilism: what are the impacts for the debt markets?
Jean Philippe Donge Mercantilism, an economic doctrine that reached its apogee in 19th-century United States, is returning to the forefront as the new Trump administration rapidly rolls out protectionist economic and industrial policies. To understand the current situation and the sharp reaction of financial markets to this new reality, it is worth taking a step back.
Mercantilism is an economic doctrine that aims to accumulate wealth through trade surpluses and protectionist measures. Its roots can be traced back to 17th-century France under Jean-Baptiste Colbert, Louis XIV's Minister of Finance, before being widely adopted in the United States in the 19th century, where it had a lasting impact on trade, industry and employment.
Donald Trump's recent protectionist measures mark a resurgence of this doctrine in contemporary politics.
To fully understand the issues at stake in this new configuration, we will attempt to trace its influence in the United States, comparing its beginnings with Colbertist policies, exploring the era of customs tariffs, the shift towards free trade in the 20th century, the upheavals linked to China's entry into the World Trage Organisation (WTO) in 2001, and finally Donald Trump's current ambitions.
We draw on various publications on the subject, as well as recent statements by Scott Bessent, US Secretary of the Treasury, and Howard Lutnick, Secretary of Commerce in the Trump administration. The aim is to understand the extent to which mercantilism continues to influence the US and global economies and its potential impact on financial markets, between promises of industrial revival and risks of global tensions.
A look back at the foundations of mercantilism: from Colbert to Hamilton
Jean-Baptiste Colbert embodied the early days of mercantilism in 17th-century France. His ambition was to strengthen national power through high customs duties on imports and subsidies to domestic industries, such as textiles. At the time, this strategy enabled France to increase its gold and silver reserves, while laying the foundations for a more self-sufficient economy. Colbert's rigid but effective policies transformed the French industrial landscape.
A century later, in the early days of their independence, the United States adopted this approach to support its industrialisation. Thus, in 1789, the Tariff Act, introduced by Alexander Hamilton, the first Secretary of the Treasury, marked the beginning of this policy. Hamilton, convinced that domestic industry was essential to independence, imposed customs duties to protect manufacturers from British competition, while financing the government. He saw these measures as a means of transforming an agrarian economy into an industrial power. Under his influence, the United States maintained high tariffs throughout the 19th century, reaching nearly 50% in the late 1890s (with the McKinley tariffs). During this period, American industry flourished, employing more and more workers and laying the foundations for global economic power.
Unlike Colbert's policy in France, the United States' goal was less to accumulate precious metals than to build a solid industrial base. This pragmatism paid off, propelling the country to economic giant status at the dawn of the 20th century.
The 20th century: the turning point of free trade
The First World War marked a paradigm shift. As early as 1913, the exorbitant costs of the conflict prompted the United States to introduce income tax. Initially designed as a temporary measure to supplement customs revenues, this tax became permanent, reducing the dependence of public finances on customs tariffs. After the war, although tariffs experienced a brief resurgence in the 1920s, the urgent need to finance global reconstruction and stabilise the economy led to a less aggressive approach, paving the way for a future with a greater focus on free trade. Thus, the 20th century saw a radical change with the gradual dismantling of protectionism (worth noting here is the failure of the 1930 episode with the Smoot-Hawley Tariff, which exacerbated the Great Depression that began in 1929). Starting in 1934, the Reciprocal Trade Agreements Act reduced tariffs. Inspired by David Ricardo's theory that nations prosper by specialising, the United States focused on exporting machinery and high value-added goods, while meeting other needs through lower-cost imports. This opening up coincided with the emergence of trade deficits, which were not perceived as an immediate threat. The economy remained robust, buoyed by moderate growth and foreign investment, illustrating a logic in which global efficiency took precedence over the surpluses cherished by mercantilists.
China's entry into the WTO: a neo-mercantilist shock
China's accession to the WTO in 2001 upset this balance. Thanks to an undervalued currency and massive subsidies, China flooded the US (and global) market with cheap products, boosting its exports to the United States. This neo-mercantilist strategy had a devastating effect on US manufacturing employment, which fell by a third between 2000 and 2010, with millions of jobs lost to Chinese competition. The trade deficit with China exploded, reaching hundreds of billions a year, while the total goods deficit exceeded $1 trillion in 2023.
Yet this influx of imports had one advantage: it kept inflation in check, keeping prices low for American consumers. This benefit, however, came at the cost of marked deindustrialisation, particularly in regions dependent on manufacturing. Contrary to the complementarity advocated by Ricardo, China's rise has supplanted entire sectors of the US industry, revealing the limits of free trade.
Trump and the spectre of mercantilism
Faced with this imbalance, in 2018, during his first term in office, Donald Trump revived a mercantilist approach, imposing high tariffs on Chinese goods. This policy led to a slight increase in manufacturing jobs, but only marginally reduced the deficit with China, while increasing costs for consumers. For 2025, Trump is considering even higher tariffs: up to 145% on Chinese products and between 10% and 20% on all imports. This strategy aims to relocate production and generate substantial revenues, but it raises concerns about its effects on inflation and financial markets.
Views of the Secretaries of the Treasury and Commerce
The visions of Scott Bessent, Secretary of the Treasury, and Howard Lutnick, Secretary of Commerce, expressed in recent interviews, provide insight into this mercantilist resurgence.
Lutnick defends tariffs as a historical tool, arguing that ‘the United States were built on tariffs’ before the introduction of income tax in 1913. He sees them as a means of relocating production and creating jobs, countering post-WTO losses. For him, tariff-related inflation is a false problem, as ‘it comes mainly from money printing’ by the Federal Reserve, and consumers can turn to local goods. Lutnick proposes the development of a sovereign wealth fund whose objective would be to generate wealth for American citizens by investing in strategic assets. The fund would be financed by customs duties and other economic measures. He also targets international tax practices to balance the budget, a pragmatic approach aimed at maximising domestic resources.
Scott Bessent, meanwhile, is developing a three-pronged strategy: reducing public debt, deregulating to free up the private sector, and reorganising global trade through customs duties. Alarmed by past deficits, he wants to bring spending back to a sustainable level without causing a recession. For him, tariffs will ‘bring back manufacturing jobs and reinvigorate the middle class’, while cheap energy and a more efficient administration (via the DOGE project) will support competitiveness.
Economic and financial impact of new US policies
We must remember, however, that the current context is different from that of the last century: today, the trade deficit exceeds $1 trillion, reflecting global interdependence. Ambitious tariffs could relocate some production and create jobs, but they also expose the US to retaliation, threatening US exports. Inflation, currently at 2.4%, could rise if supply chains tighten.
In this context, it is hardly surprising that financial markets have been very nervous about Trump's various announcements on the subject.
The tariff increases announced in the first quarter caused significant volatility and pushed gold prices to record highs, while foreign countermeasures could slow global growth.
Weakened growth prospects and inflation pressures
In its April 2025 World Economic Outlook, the International Monetary Fund (IMF) states that the trade war triggered by the United States under Donald Trump, with tariffs reaching levels not seen in a century, is likely to lead to a significant slowdown in global growth, projected at 2.8% in 2025 compared with 3.3% in 2024.
The escalation of trade tensions, marked by universal 10% tariffs and punitive taxes on China (up to 145%), is creating high uncertainty that is dampening investment and disrupting supply chains. This situation should reduce US growth to 1.8% in 2025, accentuate inflation (expected to reach 3% in the United States) and affect all countries, with downward revisions for China (4%), Europe (0.8%) and emerging economies.
The IMF warns that without de-escalation, trade tensions could amplify market volatility and further undermine global growth.
Rising public debt?
Vitor Gaspar, the IMF's director of fiscal affairs, warns of a likely rise in global debt. The trade war could lead to global debt levels of around 117% of GDP by 2027 (approaching the level reached in the aftermath of the Second World War). It is currently projected to reach 95.1% in 2025 and 99.6% in 2030. This increase would be concentrated in the major economies, particularly the United States and China.
We are already seeing the impact of the US retreat on German fiscal policy. Last March, Merz, recently elected German Chancellor , announced his "Whatever it takes" policy (in reference to the stance taken by Mario Draghi, then Governor of the European Central Bank, during the euro crisis in 2012). Against a backdrop of American disengagement from Europe and "threats to freedom and peace in Europe", Merz announced a massive financial plan to strengthen German defence and infrastructure. This plan includes a special fund of €500 billion over ten years, mainly aimed at modernising infrastructure. A second component consists of relaxing the Schuldenbremse (debt brake). Merz is proposing to amend the German Constitution to exempt defence spending in excess of 1% of GDP from the Schuldenbremse restrictions.
Bond market reaction and impact on fixed income management
Germany's financial plan, estimated at €1 trillion, and Trump's tariff policy have raised concerns about inflation and fiscal sustainability. In both cases, bond markets reacted sharply to the announcements, whether those related to Trump's “Liberation Day” or Merz's “Whatever It Takes!”.
In March, the yield on ten-year German bonds rose from 2.4% to 2.9% in just a few days. In the United States, at the beginning of April, the yield on the same maturity jumped 50 basis points to 4.5%. This latest move sparked panic on the markets, prompting Donald Trump and his Treasury Secretary, Bessent, to tone down their rhetoric and, above all, to impose a moratorium on the application of tariffs. Indeed, on 9 April, Trump announced, to everyone's surprise, a 90-day pause on most new ‘reciprocal’ tariffs (initially set between 11% and 49%, except for China at 145%), temporarily reducing the floor rate to 10% for more than 75 countries that agreed to negotiate without retaliation.
The spread on high-yield bonds rose steadily between February and early April, climbing from 308 basis points to 492 basis points (nearly 5%) above the yield on US Treasury bonds (nearly 4% on average maturities). This rise has clearly worsened financing conditions for high-yield issuers considered to be the riskiest.
Such conditions make it difficult to manage any bond portfolio, no matter how diversified. When considering different asset classes such as high-quality sovereign debt (such as US Treasury bonds), high-quality corporate debt, lower-quality corporate debt or emerging market issuers, it is essential to understand which type of economy or sector is most exposed to the new US economic policies. The aim is to adjust risk allocation based on these considerations.
However, in March and April, as in the early days of the market correction in March 2020, the various bond asset classes once again showed a positive correlation, preventing any risk mitigation through complementary allocation between issuers that were a priori more at risk and those that were less risky.
This is all the more true as some economists are warning that stagflation could kick in, especially in the US economy. This would weigh on all bond assets.
What's more, in the current climate of mistrust, we've seen that the dollar has lost market favour along with US Treasuries.
Given these high levels of uncertainty, we believe it is appropriate to reduce as much as possible the various risks to which a bond portfolio may be exposed (whether currency, interest rate or duration risks). The coming months should provide greater visibility for all market players and therefore allow for a more clear-cut positioning, regardless of the direction taken by the US economy.es.
Conclusion
Given the market reaction in March and April, it seems clear that investors are still struggling to grasp the issues at stake. For this reason, we felt it was appropriate to turn to history to understand the Trump administration's real motivations. Drawing an analogy with the fall of the Roman Empire, Lutnick reminds us that it is essential for the United States to break with its Dark Age. As investors, we question not only the advisability of this policy, but also its chances of success and the collateral damage it will cause, both in the financial sphere and in the real economy.
Whatever happens and whatever crises the financial markets experience in the short term, the future, which is undoubtedly farther away than it is near, will provide the answers to these questions. Meanwhile, however, the bond markets will continue to remind the political world of its responsibilities whenever the limits of reason are crossed.
If the Trump administration is so determined to reconnect, even partially, with the 19th-century model, then we can expect tensions to rise, particularly on the bond markets. As in 2008, 2012 and 2020, the monetary authorities will once again have to take action. How much room for manoeuvre will they have and what impact will this have on their credibility in the long term? This is a question we will also have to ask ourselves in due course...
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Final writing date: 2 May 2025
Publishing date: 2 May 2025
Author:
Jean-Philippe Donge, head of Fixed Income info@blu.lu
The author of this document is employed by BLI - Banque de Luxembourg Investments, a management company approved by the Commission de Surveillance du Secteur Financier (CCSF) in Luxembourg.
