The Economic Consequences of Trump’s Trade Policy – Looking for Clarity in the Tariffs Chaos

The tariff storm is far from over, unfortunately. President Trump and some of his key officials used the weekend to dig in their heels on his ‘Liberation day’ tariffs, and equity markets are falling heavily again today. Falls of this speed and scale can become self-reinforcing. They can also lead to unanticipated consequences. The biggest risk is that the market dislocation more generally leads to a rise in credit risks that either causes something in the financial market plumbing to freeze or something in the system to “break”. This has increased in recent days, but is still relatively low.

This underscores the challenges inherent in trying to quantify the economic costs of tariffs. As well as currency moves, the effects on growth and inflation in the US and other countries will be influenced by four factors: a) the size of the tariffs imposed on each country, and the dependence of that country on exports to the US (and, for the US, the size of its imports from that country); b) whether these tariffs are permanent or whether governments can successfully negotiate them away with the Trump administration; c) whether and how the tariff revenue raised by the US government is recycled in the form of offsetting tax cuts or increases in spending; and d) the extent to which each country retaliates by imposing tariffs on the US. China’s response has been much more aggressive than anticipated and makes a near-term deal to end the trade war between the two superpowers unlikely.

And it’s also worth remembering that globalization was always about much more than just international trade in goods. It means trillions of dollars in cross-border services trade and investment flows, millions of people moving around the world for work and countless other interconnections and interdependencies among countries. The structures of globalization have deep roots – they are being tested by this administration, but there are reasons to believe that they will for the most part outlast it.

In this context, much will depend on how far countries can go in negotiating lower tariffs. While US tariff rates are unlikely to return to their previous levels, allies like Mexico, Canada, the UK, and Japan – yes, the US still has allies – may have more success in easing trade barriers than rivals such as China. If so, the more likely outcome is a fractured world economy, not a fully deglobalized one.

In our judgement, negotiation is the most likely outcome of the trade war, even though it will be a painful wait to get there. In this connection, the SCP 500 should consolidate around current levels for the next 75 days. Indeed, there will be tariffs talks, which could open doors. One of the most important things to remember during sharp market selloffs, is to control behavior and maintain a disciplined investment strategy. Nearly 200 years ago, Baron Rothschild famously said, “Buy when there’s blood in the streets.”

Your unique circumstances and risk tolerance are key factors in the ongoing management of your portfolio.

To discuss how this or other financial opinions may affect your investments please contact me. Sincerely,

Marc

Source: Capital Economics

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