New research from a Poole economist challenges some of the conventional wisdom about how trade wars are won and lost.

In “Markups, Production Relocation, and the Gains from Trade,” assistant professor Hamid Firooz and co-author Gunnar Heins of the University of Florida examined a factor that’s often overlooked in popular analysis of trade wars: markups, or the gap between what firms charge and what it costs them to produce goods. Differences in these markups across countries and industries, Firooz and Heins found, play a major role in how the benefits of trade and the costs of tariffs are distributed across countries.

Rethinking the Gains From Trade

Economists have long argued that trade benefits countries by lowering prices and increasing choice. That price effect is still present in the new study, which appeared in the Journal of the European Economic Association earlier this year, but Firooz and Heins show another force working alongside it: what they call a profit-shifting channel.

When countries trade, they don’t just exchange goods. They also shift where profits are earned. If a country specializes in industries where firms can charge higher markups, it captures a disproportionate share of global profits. Conversely, countries focused on producing lower-markup goods may see profits flow abroad, even as domestic consumers benefit from cheaper goods.

To measure these effects, the researchers built a detailed model of the global economy covering dozens of countries and thousands of industries. They also estimated more than 36,000 country- and sector-specific demand relationships. They found that markups vary widely across countries and industries. Wealthier countries, for example, often host firms with higher markups, reflecting stronger brands, technology advantages or market power.

These variations turn out to be critical. Countries that export high-markup goods such as specialized machinery or branded consumer products tend to gain more from trade. But they also have more to lose when trade barriers go up.

Tariffs Take a Toll on Welfare

One of the study’s most striking findings is that tariffs can be significantly more damaging than traditional models suggest, especially when these markup differences are taken into account.

In a hypothetical global tariff increase, Firooz and Heins find that welfare losses (a broad measure of economic well-being) from tariffs can be two to three times larger than standard models predict. That’s because tariffs don’t just reduce trade. They also disrupt where profits are earned. This helps explain why some countries are hit harder than others. Nations that rely heavily on exporting high-markup goods see especially large losses when tariffs rise, because they lose profits in export markets.

A closer look at the U.S.–China trade war

The study applies this framework to the 2018–2019 U.S.–China trade war, offering new insights into a heavily debated episode.

Once markup differences are taken into account, Firooz and Heins found, U.S. welfare losses were more than twice as large as standard models would predict, rising from about 0.03% to 0.07%.

China, by contrast, appears to have benefited slightly overall.

The difference in welfare effects stems from a key distinction between the two countries’ tariff approaches. American tariffs on Chinese goods primarily affected items with a low markup, while Chinese levies were weighted toward high-markup U.S. goods. Industries targeted by U.S. tariffs had average markups about 21% lower than those targeted by China. 

Had the U.S. focused its tariffs on high-markup imports instead, the study finds, the outcome of the trade war could have been quite different. In one scenario, the U.S. could have reduced its own losses and even generated modest gains by imposing import tariffs on high-markup goods, while imposing larger costs on China.

A More Complex Picture of Globalization

Overall, the study paints a more complicated picture of global trade than the traditional “everyone gains” narrative. Trade still lowers prices and creates value, but it also redistributes profits in ways that advantage some countries over others.

For policymakers, this suggests that understanding the structure of domestic industries—and especially where high-markup firms operate—is crucial when designing trade policy. For the public, it offers a clearer explanation of why trade disputes can feel uneven, even when both sides impose tariffs.